Global private equity firm The Carlyle Group today (October 25) signed a definitive agreement to pay $375 million for 85% of Xugong Group Construction Machinery Co (XCMC), China's largest construction machinery manufacturer.
The deal represents the first time a leading SOE has sold such a high level of control to a private equity firm and was executed at two times net asset value (NAV). This means it comfortably cleared a government set hurdle that companies only be sold at a premium to NAV.
XCMC is one of several subsidiaries currently owned by Xuzhou Construction Machinery Group (XCMG), which will retain a 15% holding on completion of the deal. XCMG, in turn, is wholly owned by the city government of Xuzhou in China's eastern Jiangsu province.
The bulk of the sale comprises old shares and will net the city government $255 million in proceeds. The remaining $120 million comprises new shares and will be used to fund improvements. Half of the proceeds will be paid on completion of the transaction, while the other half will be paid depending on the company reaching certain milestones. In a press release, XCMC chairman, Wang Min, said the company wants to develop international brandname recognition. One of the reasons why it found Carlyle was attractive because of its experience in the international automotive sector.
As one specialist comments,"This SOE has tremendous potential, but it needs help competing against foreign entrants coming to China on the back of the World Trade Organization pact. Carlyle will provide the intellectual capital to do that."
Carlyle won the deal through an auction process that went through two rounds involving six international bidders. One of the bidders was US construction manufacturer Caterpillar, with whom XCMC already has a joint venture. However, observers say Caterpillar was less attractive because it would have competed directly against XCMC.
They add that Carlyle found the company appealing because it provides a play on China's infrastructure development, including the Shanghai Expo in 2010 and the 2008 Beijing Olympics. As such, it has taken a longer-term view beyond the government's current tightening measures over certain overheating sectors such as property.
"Investing in this company is a proxy for China's growth," says Brian Gu, Vice President in JPMorgan's Asian M&A group. The US investment bank acted as independent financial advisor to XCMG and XCMC on the deal.
Carlyle will now have to make a general offer for the listed entity (Xuzhou Science and Technology) as part of the acquisition of the parent. It is highly unusual for a foreign company to be in a position to acquire a listed Chinese company.
Specialists say the sale signals the central government's plan to privatized state-owned enterprises at the provincial level. Says Liang Meng, JPMorgan's Chinese M&A head, "The government is telling provincial governments that 'ownership is not as important as existence'. It believes generating employment and tax income are more important than formal ownership."
No changes are planned to employee and staff benefit levels, say sources close to the deal, and the chairman will stay the same. The city government's remaining 15% comes with one seat on the board, and will enable the government to maintain support and some presence in the company. The transaction has yet to obtain provincial and national level government approvals.
XCMC makes cranes, loaders, earth excavators and vehicles. The company reportedly has a strong national brand and was profitable last year on sales of Rmb 6.59 billion ($815 million). However, the Shenzhen-listed unit, in which the company has a 43% stake, is loss making.
The ambitious expansion plans of private equity firms in Asia forms the cover story of the October issue of FinanceAsia magazine. For further details, please contact Naveet Singh at [email protected].
