China New Borun (BORN) – Going Private – 30% upside

Current Price – $1.29

Acquisition Price – $1.67

Upside – 30%

Expiration Date – TBD

Going Private Announcement

This idea was shared by Vladimir.

 

Another microcap opportunity similar to TCP International case. We have a single major shareholder – Jinmiao Wang, Chief Executive Officer and Chairman of the Board – who also holds a 55.5% stake in the company, and who made a non-binding proposal letter to acquire remaining stake 44.42% stake for $19.1 million on January 10, 2018, which translates in $1.67 per share in cash.  On February 2, 2018, the Board of Directors of China New Borun Corporation have formed a special committee consisting of three independent directors to consider the acquisition. There have not been any further updates since.

BORN is a net-net currently trading at 30% discount to net cash.

 

Business Summary – profitable net-net

China New Borun is a leading producer and distributor of corn-based edible alcohol in the PRC (People’s Republic of China) based on tons of edible alcohol produced. Its edible alcohol products are primarily sold as an ingredient to producers of baijiu who then further blend the product into finished products sold under various brand names throughout China. “Baijiu” is a grain-based alcoholic beverage, generally made from corn, wheat or barley, clear in color, with alcohol content ranging from 18% to 68%.

One interesting point on industry – the volume of produced edible alcohol is regulated by government, so you have a natural barriers to enter at the one hand, and inability to grow business on the other hand.

What I like about this company that if you look on its capital structure it fully cash covered net-net (using current RMB/USD exchange rate):

Cash: $228m

Debt: $182m

Net Cash: $46m

Market cap: $1.29*25.7=$33.2m

While it is great, the main reason for such valuation is usually loss-making type of business, but look on the table below – historical results have been very strong.

Some interesting remarks re history of alcohol market in China:

Back in 2012, about half the market consisted of high-end sales to government and business buyers, whose toasts to seal deals gave the liquor a funky odor of corruption that hit consumption during Xi’s crackdown. Now more than 90 percent goes to retail customers, according to China New Borun.

So my idea here is that taking private can be a catalyst to unlock the value. CEO offers to buy a company at the discount to cash on the balance, which obviously is a very favorable proposition for the buyer. Probably special committee may engage other buyers and increase the offer price, but I am not very sure on this.

Also it may be helpful to read the call transcripts from Seeking Alpha. The main take away from the recent one – company’s recent decrease in revenue mainly related to longer annual maintenance, which lead to decline in production, while industry trends are positive and support margin expansion.

 

Why the opportunity exists

• It is a micro cap opportunity with major market in China and I guess there is no trust in accounting standards or auditors of such company;
• There is history of accusations of incorrect financial statement, off-balance liabilities, not prudent capital allocation. I can’t argue about their credibility, but valuation since then never recovered – company went public in 2010 at $7/share;
• No firm offer has been made yet;

 

Key risks

• Micro cap opportunity with obviously not very transparent and friendly to the minority shareholders CEO;
• Possibility of decreased or revised the offer down – or the offer being cancelled outright;
• History of accusations of accounting fraud. As a mitigant – one of the largest institutional shareholders is Renaissance Technologies who probably did a DD before investing;