Barclays Capital is serving as the exclusive financial advisor to the Special Committee [that is CFSG on behalf of non management shareholders]. Shearman & Sterling LLP is serving as U.S. legal advisor to the Special Committee and Bilzin Sumberg Baena Price & Axelrod LLP is serving as Florida legal advisor to the Special Committee. Bank of America Merrill Lynch, The Hongkong and Shanghai Banking Corporation Limited and Citigroup Global Markets Asia Limited are serving (themselves or through their affiliates) as financial advisors to Bain Capital as well as underwriters, bookrunners and mandated lead arrangers of the debt facilities. Kirkland & Ellis International LLP is serving as U.S. and U.K. legal advisor to Bain Capital. Davis Polk & Wardwell LLP is serving as U.S. legal advisor to Barclays Capital. Allen & Overy is serving as U.S. and U.K. legal advisor to the underwriters, bookrunners and mandated lead arrangers. DLA Piper and Han Kun Law Offices are serving as international and PRC counsel to Mr. Weigang Li [the Chairman of CFSG].
We are engaged primarily in the design, development, manufacture and sale of a variety of fire safety products for the industrial and special purpose infrastructure industries and the design and installation of industrial fire safety systems in which we primarily use our own fire safety products. To a minor extent, we provide maintenance services on our industrial fire safety systems for our customers. Our business is primarily in China, where we operate sales and liaison offices in more than 20 cities; we are also expanding our business overseas by providing integrated fire safety systems to industrial clients globally.
We market our industrial fire safety products and systems primarily to major companies in the iron and steel, traditional power generation, nuclear power generation and petrochemical industries in China. In the last two years, we also secured several contracts with power generation plants in India. We are further developing our business in the transportation sector, which includes projects involving subways, highway tunnels, high speed trains and marine transportation, and telecommunications.
We have internal research and development facilities engaged primarily in furthering fire safety technologies. We believe that our technologies allow us to offer cost-effective and high-quality fire safety products and systems. We have developed products for industrial fire detecting and extinguishing. We believe that we are the leading manufacturer in China of such systems having successfully developed a comprehensive line of linear heat detectors.
...Our key products include linear heat detectors and water mist extinguishers.
Cash and cash equivalents
Accounts receivable, net of allowance for doubtful accounts of $8,153,727 and
$6,539,787 as of December 31, 2010 and 2009, respectively
Receivables from and prepayments to related parties
Refundable bidding and system contracting project deposits
Costs and estimated earnings in excess of billings
Prepayments and deferred expenses
Total current assets
I am an accounting geek - and I can't resist an accounting geek's aside here. Current assets are - by definition - assets that the company can reasonably expect to turn to cash within a year. (If they take longer to turn to cash they are not current.) This company has more than a year's revenue locked up in working capital. Can someone explain to me how it is possible to consistently have more than a year's revenue locked up in working assets and have them all counted as "current"?
PLANT AND EQUIPMENT, net
Buildings and improvements
Total depreciable assets
Less accumulated depreciation
Construction in progress
Plant and equipment, net
Accounts payable to related party
Billings in excess of costs and estimated earnings
Total current liabilities
System contracting projects
COST OF REVENUES
System contracting projects
Total cost of revenues
Selling and marketing
General and administrative
Depreciation and amortization
Research and development
Total operating expenses
INCOME FROM OPERATIONS
Where there's smoke, there's fire... (But they have that covered, too.)
Good writeup. My experience is that many of foreign firms are so desperate in doing deals in China that they have basically put the blinders on and let their local staff do whatever it takes to get deal flow. These deals would have never passed the smell test with the investment committee had it been an US deal.
Do you think there is any way this can be some type of fraud/scam with a fake buyout offer? I don't see how it can be, because we have all these big name firms that signed onto the deal - and I'm sure that these guys don't come cheap. And I don't know the play that management can make if they want to steal U.S. investor money. Maybe they are going to dump insider's shares while the price is inflated by merger arbs? Can they really do that? Most shares of these MBO Chinese RTOs are restricted, unlisted shares that they need to register first.
If these MBO offers are real, regardless of the fundamentals of the company, then should we be merger arbitraging? CSR (who also have some big name banks and lawyers involved in their MBO) and CFSG have a pretty good spread to the buyout price. I know there are a few US Chinese listed names that went through a MBO successfully and those merger arbs did okay. It's a very confusing space to play.
"They also have a huge and presumably easy to collect lot of current assets outstanding. There is $150 million in current assets here - and they should - with better management - be able to turn $100 million into cash without impacting the business. After all, the customers are solvent parties that do not need all that credit extended to them. $100 million additional cash plus the $28 million cash on the balance sheet will offset more than a third of the purchase price for the business."
This sort of leads to the obvious (to me) question: why would a company that is this profitable go private at a low valuation?
As a side note, reading your blog has been a hell of a lot more useful than going through the coursework for an MBA designation. I wish there was a way to thank you for all this.
I think they must do everything by hand utilizing cheap Chinese labor, hence the absence of machinery or other fixed assets (other than the amount noted for the chairman's car). How can you question a company where the second largest shareholder is an entity called Chinese "Honor" Investment Ltd (emphasis added)?
Perhaps you should be thankful (rather than annoyed) that you didn't review these guys. Had you, you very well may have ended up going short and been burnt by the buy-out.
Or perhaps the cynicism throughout the post is the result of exactly this happening.
Absolutely hilarious stuff. I wonder how many people will miss the tone?
In a previous life, I used to work at an FDA-inspected health supplement manufacturer. We probably blew 900K just on the QC equipment. Mind you, our gross revenue was only $50M, so obviously our operations weren't as top-notch as CSFG's are.
Yes, buyouts with all sorts of name-brand actors can be scams. This article about China Water and Drinks (CWDK) should be eye opening. Please read it.
Remember that advisors, auditors, bankers, lawyers, have no real liability should a deal turn out bad. Their interest is in collecting fees and only fees. They have no interest in protecting outside investors.
Relying on the argument from authority is what the con men want you to do. It is how the con works.
the CSFG deal is handled by a local chinese partner. what to do, once you've raised the funds, you gotta invest it, can't sit on it you know.
Davis Polk & Wardwell LLP handled the US$22B AgBank IPO. The lead Davis Polk partner on AgBank IPO is now retired and serving as a Member of Parliament in Singapore.
Don't be dazzled by the littany of good names advising the deal---its a CYA thing.
Do you think the "customer finance" operations could be an example of a company ultimately based on circumventing state imposed lending restrictions in China?
Having been through a few Bain diligence reports which always find a way to back up the geniuses that commissioned them I understand that there is no negative too negative to have an ingenius MITIGANT! Bravo Bain you clever boy(boy said with an irish accent here like "bye")
I was involved in the sale of a similar company in the US. I think in reality once you dig through all the hype this is really a fire sprinkler company -- or perhaps a slightly upmarket version of that. The physical plant numbers could be off, I don't know, but it's not a very capital intensive business in terms of physical plant. Anyway this US company I refer to had absurd levels of AR. Basically they are financing the contractors installing the equipment who are always in desperate need of capital due to hold backs and razor thin margins. The company's competitive advantage was that they provided good financing terms and the billing practice was to charge more for the goods to firms known to pay later.
Anyway this company with rather limited growth prospects due to the mature nature of the industry still sold for 8x ebitda.
let me tell you why Bain did this deal. Feeling the need to established a presence in China, many PE firms have established branches in China. Bain Cap is one of them, but there are others.
However, the people they recruit are of sub-par caliber. The requirements for working in PE in China is (a) Knows both Chinese (verbal and written) and English and (b) has finance and/or consulting experience.
But what happens is that the truly smart candidates, those who speak and write both Chinese and English fluently, are also smart enough to find a PE job in the US. So what you end up are subpar candidates working at the Chinese branches. They may have an impressive resume on paper, but once you interacted with them, you know they are not the sharpest knifes in the drawer (though they could be very book-smart).
So now you have a below par team in place, partners in the US are especially successful in raising money and want to put it in use so that they can start collecting the management fee. So they tell their Chinese arms "Find me deals to do". And what you have here is the result of that. Sub-par talent forced to find LBO deals in order to collect the management fee for the US partners.
Here we go again..... funky price action in Chaoda this week too....
Another red flag. Their allowance for doubtful accounts is 8 million out of 50 million gross receivables (42 million net receivables). 16% of receivables have been written off? You'd expect them to do a better job with credit checks on their customers. Otherwise they'll need massive margins on the sales to cover the continued credit write-offs (like a rent-to-buy company serving high credit risk customers). This could explain why net margins are so high on a simple product. Doesn't sound like a good business model which Bain would be interested.
Could you explain one thing? I assumed most Chinese stock frauds are vehicles to allow management/main shareholders to sell inflated shares to the ignorant public. Setting aside Bain is not your typical ignorant investor, the management are also not cashing out as mentioned in the press release (see below). This is a management led buyout. If the company is a fraud like some of the other's you've uncovered, it would blow up shortly without giving management the time to cash out.
"Under the terms of the merger agreement, each share of the Company's common stock issued ... will be cancelled in exchange for the right to receive $9.00 in cash, except for (i) ... shares ... related to Mr. Weigang Li, the Chairman of the Board, Mr. Brian Lin, the Chief Executive Officer of the Company, and Mr. Weishe Zhang, the Vice President of Strategic Planning of the Company, which will be cancelled without receiving any consideration."
Finally, I wouldn't take too much comfort from the impressive names listed as advisors. The law firms will happily crank through the documents and receive fees. There is very little downside for them if this blows up. The only firms at risk are Bain's investment banks and underwriters of the debt. If it is a bad deal, they get stuck with the credit losses and maybe get sued by Bain in the same way Guy Hands sued his banks over the EMI deal (which he lost). Therefore, BofAML, Citi and HSBC better due their due diligence on this one.
You also should be pretty skeptical of the law firms - while some have high-quality partners with real local expertise and business savvy, in many cases US/UK firms and their aging baby boomer partners are DYING to rebrand themselves as Asia experts to avoid becoming dinosaurs and getting pushed out by younger, hungrier people. So they assemble a team of FOB Asian associates who look the part but know no more about Chinese business than I do and white kids who went to Yale but have never had any job outside of the academy before. These are not the most critical or independent business thinkers. With minimal supervision from the partner, this crack team performs "due diligence" that mostly consists of making sure that the target company has many pieces of paper and someone who can answer questions without appearing to be lying. While Chinese companies have lagged in this area, at this stage I think their paper-generating and bull-shitting abilities are coming much closer to that of large US companies. The lawyers are not on site, they don't know anything about how fraud is conducted, they may not know much about China, and they are not really looking for problems (everyone just wants to close the deal).
"We market our industrial fire safety products and systems primarily to major companies in the iron and steel, traditional power generation, nuclear power generation and petrochemical industries in China."
"This company looks like it is in the business of financing their customers."
John, if you're going to keep after these China plays, you need to spend a few years running a Chinese SME selling to large SOEs to learn how to read the books.
By Western accounting standards, that $100m in vendor financing should probably be on the books as "goodwill". That is, it represents an investment in a favorable market access position which can reasonably be expected to produce excess returns.
They've bought their way into a gravy train.
Consider for a moment the switching costs of swapping out the fire control systems (or even, for that matter, the fire control systems vendor) at a nuclear power plant.
@ Micheal R.
Aren't you basically saying that the accounts are unreadable if interpreted according to western standards? That $100M (!) receivables isn't that, it's some other type of nebulous long-term investment?
That's all very well, except then why are they then listing themselves on a U.S. exchange? Claiming U.S. auditors? Where's the footnote saying "these numbers don't mean at all what they think you mean, but in our culture they are nevertheless impressive?" Doesn't Occam's razor point towards them being fraudulent no matter what accounting culture you are from?
John, I think you will enjoy analyzing Chaoda (682 HK) (and China Green, while you are at it). Just an idea. -DC
You might want to look at how CFSG orginally acquired its PP&E. Book value and replacement cost are often quite different.
Does this mean that the "idea" is to screw up the current stock holders by selling the company too cheap. Obviosly the buyer is aware of some things that we are not.
I suspect the law firms investigating the deal are just waiting for the deal to close to come up with some interesting "stuff".
this is a finance co. ( look at the old Tyco Fire and Security model)..
If Bain is involved; look out.
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