Nestle’s Biggest Takeover in China Creates 23% Return at No Risk: Real M&A
Bloomberg - Aug 15th 2011, 10:17
Nestle SA’s biggest acquisition in China is giving traders a chance to reap a 23 percent profit without the risk of losing any money on the deal.
Nestle agreed to buy 60 percent of Hsu Fu Chi International Ltd, the Dongguan, Guangdong-based candy maker, for S$2.07 billion ($1.7 billion) in July. After surging above the all-cash offer of S$4.35 a share, Hsu Fu Chi has given up all the gains as stocks around the world plummeted and Nestle’s baby food recall in June raised regulatory concern over the cross-border transaction, Louis Capital Markets said. Hsu Fu Chi ended last week at S$4 -- the same level prior to the announcement.
While Nestle, the world’s largest food company, needs to win antitrust approval from China for the deal, traders can lock in an annualized 23 percent return if it closes by year end, according to data compiled by Bloomberg. Since China’s anti- monopoly law began three years ago, the Ministry of Commerce has blocked only one of the more than 200 takeovers it has reviewed, law firm King & Wood said. Hsu Fu Chi would give Nestle the biggest share of China’s market for sweets without dominating an industry where rivals control more than 90 percent of sales.
“You can see a guaranteed upside,” Alick Wong, a research analyst at Louis Capital in Hong Kong, said in a telephone interview. “Technically and fundamentally it is a good trade.”
Robin Tickle, head spokesman for Vevey, Switzerland-based Nestle, declined to comment on the purchase because of the review. Christine Sun, a spokeswoman for Hsu Fu Chi, said the company respects all regulatory procedures.
Four Taiwanese Brothers
The Ministry of Commerce, known as Mofcom, didn’t respond to a faxed request for comment on Nestle’s deal with Hsu Fu Chi.
Hsu Fu Chi was founded in 1992 by four brothers from Taiwan and makes cereal-based snacks, packaged cakes and traditional Chinese “sachima” sweets. The stock trades in Singapore.
Nestle, which makes Nescafe instant coffee, Kit Kat candy bars and Jenny Craig weight-loss products, said in a statement July 11 that it agreed to take a controlling stake in Hsu Fu Chi. The rest would remain with the Hsu family, the statement said.
The deal, Nestle’s largest in China, would also be the biggest cross-border deal for a mainland company outside the banking industry since 2004 based on equity value, data compiled by Bloomberg show. Nestle, which has more than $8 billion in reserves, will pay for the transaction in cash.
The deal will help Nestle, valued at about $210 billion, tap demand in the world’s most populous nation.
Sales at Hsu Fu Chi will increase more than 20 percent next year, according to data compiled by Bloomberg. Analysts estimate that Nestle’s revenue will rise about 3 percent in 2012.
“It’s ultimately China,” Sachin Shah, a merger arbitrage strategist at Tullett Prebon Plc in Jersey City, New Jersey, said in a telephone interview. “They want to increase their presence in China, and I’m sure they’re going to work with the insiders on cultivating this business.”
Hsu Fu Chi, which jumped to S$4.40 after the announcement, has fallen for four straight weeks on concern regulatory scrutiny will cause the deal to be delayed or fall apart.
Under China’s anti-monopoly law, an acquisition that leads to “decisive influence” in the market and involves companies that exceed certain sales levels need the approval of the commerce ministry, according to Michael Han, a Beijing-based partner at law firm Freshfields Bruckhaus Deringer LLP.
The formal review process may take up to 180 days, he said. The commerce ministry received Nestle’s application to buy Hsu Fu Chi, Yao Jian, a ministry spokesman, said on July 15.
Juice Versus Candy
Based on last week’s closing price of S$4, the S$0.35 gap equals an 8.8 percent gain, or an annualized return of 23 percent if the deal closes at the end of 2011.
Through May, the commerce ministry reviewed 240 mergers under the anti-monopoly law, according to a newsletter in June from Beijing-based King & Wood, which cited Director General Shang Ming of the ministry’s anti-monopoly bureau.
It approved 233 acquisitions, cleared six deals with certain conditions and rejected only one, the newsletter said. About half were approved within 30 days.
The ministry blocked Coca-Cola Co’s $2.3 billion bid for China Huiyuan Juice Group Ltd. in 2009, saying at the time that the combination would hurt competition.
The deal would have combined China’s largest and third- largest juicemakers and given Coca-Cola a 17.5 percent share of the market that year, according to Euromonitor International.
Nestle currently has 0.3 percent of the sugar confectionery market in China, while Hsu Fu Chi had 6.8 percent as China’s largest sweets maker, the London-based researcher’s data show.
Baby Food Recall
“Coke and Huiyuan had a much bigger dominance than Nestle and Hsu Fu Chi in their respective markets,” Mei Xinyu, a researcher at the Ministry of Commerce’s Chinese Academy of International Trade and Economic Cooperation, said in a telephone interview. The tie-up has a “low level of monopoly,” which makes it more likely to gain clearance than Coca-Cola.
Louis Capital’s Wong says shares of Hsu Fu Chi have also been hurt by a misunderstanding in China about Nestle’s baby food recall in June. Chinese media inquiries prompted Nestle to issue a statement on its local website last week, according to Jonathan Dong, Nestle’s Beijing-based spokesman.
The statement said the recall stemmed from glass found in one jar of P’tit Pot Recette Banana baby food in France, a product that isn’t sold in China.
“Investors are over-concerned, the risk for rejection is low,” Larry Wan, Beijing-based head of investment at Union Life Asset Management Co., which manages $2.2 billion, said in a telephone interview.
Traders looking to bet on Hsu Fu Chi may find it difficult to build positions in the stock because it trades less than most of the largest publicly listed companies in Singapore, according to John Maysles, an event-driven analyst at Elevation LLC.
For the median company in the 30-member FTSE Straits Times Index, a daily average of 4 million shares traded in the past three months, data compiled by Bloomberg show. In the same span, less than 300,000 shares of Hsu Fu Chi changed hands each day.
“If you are buying it for an arb spread and it doesn’t go through, you are not going to hold it,” Maysles said in an e- mail. For a thinly traded stock, it is “very hard to sell that amount without having a significant impact,” he said.
With stocks globally fluctuating more than at any time since the financial crisis, owning shares in a company that Nestle, the world’s sixth-largest by equity value, intends to purchase provides a buffer against market declines, according to Tullett Prebon’s Shah.
“Heads you win, tails you don’t lose” on the arbitrage, Michael Holland, chairman of New York-based Holland & Co., which oversees more than $4 billion, said in a telephone interview. “You have to take a look. The reward is pretty palpable.”
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