BlueCity (BLCT) – Going Private – 20%+ Upside

Current Price: $1.28

Offer Price: $1.55 (adj. by the ADS fee)

Upside: 20%+

Expected Closing Date: H2 2022

Preliminary Proxy

This idea was shared by Lukas.

 

This is a US-listed Chinese going private transaction. Such deals are generally considered as black-boxes due to low visibility into the business, transaction process, and management’s intentions. However, historically most Chinese privatization deals with definitive agreements have worked out successfully. More information can be found in this Analysis of US-Listed Chinese Going-Private Transactions.

BlueCity has entered into a definitive going-private transaction with a consortium led by the company’s founder. The offer comes in at $1.6/ADS or $1.55/share excluding the ADS fee. Total consideration is $60m. A shareholder vote is a formality as the buyer owns 70% of voting shares. The deal is expected to close sometime in H2 2022. The main risk is deal termination or another renegotiation to a lower price. However, given that a definitive agreement has been signed, the risk of things going south seems somewhat lower, at least from a historical perspective.

So far, for Chinese management buyouts, only 2 definitive agreements have been terminated so far – China XD Plastics (CXDC) and Sinovac Biotech (SVA). The former was dropped due to prolonged lawsuit-related delays while the latter was terminated at the “last minute” as SVA chose to accept an investment from a PE firm instead of going private.

BlueCity timeline:

• January 3 – Received a preliminary non-binding offer from the consortium to acquire the company for $1.85/ADS;
• January 4 – The company formed a special committee, comprised solely of independent and disinterested directors, to evaluate this proposal. 6 days later an update was announced that the special committee is proceeding with its review;
• April 19 – The consideration was lowered from $1.85/ADS to $1.6/ADS. Management vaguely stated this was due to worsening macroeconomic conditions and tightening of regulatory policy across industries in the PRC. A definitive agreement was signed shortly afterwards.

Price cut from non-binding agreement to definitive agreement is rare but not unique and has previously happened in a few other cases as well (all closed successfully). The buyer group comprises Mr. Baoli Ma (founder and chair, owns 31% of shares outstanding and 67% of voting power), Metaclass Management ELP, and the CDH Entities. The Buyer Group intends to fund the Merger with a combination of rollover equity and cash.

There are a couple of positives that add to the attractiveness of this situation. The definitive agreement was announced quite shortly – 3 months after the non-binding offer. Preliminary proxy has also been released promptly (came out yesterday). Management might really be incentivized to buy this company as it now trades at a negative EV (MCAP = $48m, has $55m in cash mostly from IPO proceeds, and has 0 debt). The company IPO’d in 2020 at $15/share ending the year with $67m cash on hand and an EV of over $200m. However, the subsequent stock sell-off due to weak earnings (mostly due to high streaming costs and the inability to significantly reduce them) in addition to negative overall sentiment for Chinese stocks, resulted in BLCT dropping below cash levels. So this looks like opportunistic timing to acquire BLCT at just around 10% of the IPO price.

Management has stated they believe limited flexibility, market’s focus on short-term results, increased costs due to reporting, and the need to disclose potentially sensitive information while being a public company are unbeneficial to their business. This is due to the fact that the stock float is very low and the founder is not willing to sell his shares. Another important incentive is potential future issues regarding their ADS listing:

On February 4, 2022, the U.S. House of Representatives passed a bill which contained, among other things, an identical provision. If this provision were to be enacted into law and the number of consecutive non-inspection years required for triggering the prohibitions under the HFCAA is reduced from three years to two, then the Company’s shares and the ADSs could be prohibited from trading in the United States in 2023. On May 4, 2022, the SEC provisionally named the Company as a Commission-Identified Issuer following the filing of Company’s Annual Report

 

BlueCity

BLCT does not look like just another Chinese fraud story. Bluecity is the largest online LGBTQ community in China, providing a comprehensive suite of services, including social networking, live streaming (which comprises the majority of revenues), and health-related services. BlueCity’s mobile app “Blued” has over 60m registered users in about 170 countries and regions and is available in 13 languages. Google trends show pretty stable global searches for the app itself (interestingly, have increased at the beginning of April). The majority of searches come from China, Indonesia, and neighboring countries. App reviews on the web are generally very positive. The app itself is available both on Android and iOS and has received 4 stars on both marketplaces. Blued seems to be actively updated on both platforms and is trending #92 in social networking on iOS. I found no fraud allegations for the company/management online either.

BlueCity’s revenue has been growing pretty consistently over the years, though the later half of 2021 saw revenue decrease mostly due to Chinese streaming market headwinds. This had an effect on the company as the majority of the company’s revenue comes from live streaming via their Blued app which mostly comes from virtual gift sales. The commission is then paid to talent agencies. It seems BLCT’s core revenue source faces a lot of uncertainties both from regulators and competition. The regulatory environment in China is obviously very different from the Western world and the company notes that the current regulatory environment regarding virtual assets has no law and it is not clear what liabilities may be associated with these assets.

On a positive note, the % of revenue from live streaming has been declining lately. The company’s profitability is likely to increase as the non-live streaming services have higher margins.

The remaining revenue is comprised of membership services, advertising services, merchandise sales, and other services. Membership services include subscription and pay-per-use services to gain additional features. Advertising services are mostly applied to non-membership users in the form of ads. Merchandise sales come from HIV-related screening kits and medication. Other services include miscellaneous consulting-related services. Management has stated that BLTC is still in the very early stages of monetization and this is currently the main focus of the company. It seems that the strategy is working as non-streaming revenues have been growing very fast lately (40-50% YoY in Q4’21 and even faster in Q3’21).

Monthly active users (MAU) have been growing consistently and peaked at 8.3m in mid-2021, but then dropped to 7.2m in H2 2021. It is quite concerning and I was not able to find the clear reasons for this drop. However, this might be just a post-COVID normalization.

Historical financial performance: