China First Heavy fails to raise maximum amount from A-share IPO

On the heels of China XD Electric's trading debut, which was the weakest in years, China First Heavy Industries has added more pressure on China's A-share market after its initial public offering raised less than the targeted amount. The smaller deal size was a result of the company setting the final price below the top of the indicated range.

It's almost routine for Shanghai issuers to price their IPOs at the top end of a price range and raise as much as they can. But recently, China's IPO market has demonstrated a lukewarm response to new issues as companies have fallen below issue price on their first trading day.

First Heavy, a heavy machinery maker, raised Rmb11.4 billion ($1.67 billion) by selling shares at Rmb5.70 apiece, according to a filing to the Shanghai Stock Exchange yesterday. The company didn't say when it will start trading. The price, which was below the top end of the Rmb5 to Rmb5.80 offering range, represents an historical price-to-earnings ratio of 41.2 times, based on 2008 earnings. 

Analysts are not bullish on First Heavy's secondary market performance even though the company reduced the price to avoid the fate of China XD Electric and China Erzhong Group Deyang Heavy Industries, which were the first two companies to fall in their Shanghai debuts in more than five years.

Erzhong (which literally means second heavy) fell 4.1% below its IPO price of Rmb8.50 when it started trading on Tuesday for a close of Rmb8.15, and fell further to Rmb8.09 yesterday. The company raised $373 million ahead of the listing. And last Thursday, XD Electric, which raised $1.5 billion from its IPO, fell 1.4% in its Shanghai debut to Rmb7.79, versus an IPO price of Rmb7.90. The stock closed at Rmb7.48 yesterday.

First Heavy's smaller-than-anticipated deal size casts a shadow on the upcoming big IPOs in the pipeline, analysts say. Speculation is mounting that Huatai Securities, a medium-size Chinese brokerage firm, will need to downsize its planned Rmb20 billion ($2.9 billion) share sale, which is expected to be the mainland's biggest IPO this year.

It is also predicted that poor market demand will spark a race among companies to offer primary shares while they can before the regulators halt new issues again. China's securities watchdog over the past weekend warned institutions to show restraint on IPO pricing, local media reported.

China suspended new share issues in September 2008 after the Shanghai stock index tumbled 60% from its peak in 2007. That ban was lifted last July and since then the regulators have been gradually increasing the equity supply by approving new listings. Most of the applicants have been government-backed companies seeking to list on the Shanghai Stock Exchange. The listing approvals are part of an effort to mute surging asset prices, which sent the Shanghai stock index 80% higher last year, and to reduce state-owned enterprises' reliance on bank loans as the only channel for raising money.

First Heavy offered 2 billion shares, or 30.6% of its enlarged share capital, through a deal that was arranged by Bank of China International.

Of the total, 50% was offered to institutional investors through offline subscription, which was 3.8 times covered. The remaining shares were open to retail investors through an online sales process. This portion was 20 times subscribed, according to the company's filing to the SSE.

Investors who ordered shares at the maximum price of Rmb5.80 will get a Rmb0.1 per-share refund, the stock exchange filing said.

China's steel and iron plants, which are First Heavy's main customers as well as its suppliers, have seen a huge amount of product surplus over the past three years. A Rmb4 trillion stimulus-led FAI (fixed asset investment) surge failed to buffer overcapacity in steel production.

China's steel plants made over 617 million tonnes of the metal last year, 157 million tonnes more than the government's target of 460 million, according to China Iron & Steel Association. Beijing wants to close less efficient smelters in order to reduce pollution, but local governments, which want to preserve economic growth and jobs, have been slow to follow edict. The result is that inventories are increasing, while market prices are falling.

Heavy machinery makers in China reported an average growth in turnover of 32.3% year-on-year in 2008, even though customer orders fell 20% during the year, according to China Heavy Machinery Industry Association.