FM Capital Partners Delivers Letter to the Special Committee of the Board of Directors of China Cord Blood Corporation
LONDON, August 27, 2015 /PRNewswire/ --
Urges the Special Committee to reject Golden Meditech Holding Limited’s offer and start a formal sales process to solicit the highest offer for ALL shareholders.
FM Capital Partners Ltd today sent a letter to the Special Committee of the Board of Directors of China Cord Blood Corporation expressing its view on the proposal to take the Company private made by Golden Meditech Holdings Limited. FM Capital Partners believes that the offer of $6.40 per ordinary share significantly undervalues China Cord Blood Corporation and urges the Special Committee of the Board of Directors to start a formal sales process to solicit the highest offer for the Company.
FM Capital Partners acts as investment manager for funds which own 1.4% of the Company's ordinary shares currently outstanding.
The full text of the letter follows:
27th August 2015
The Special Committee of the Board of Directors
China Cord Blood Corporation
48/F, Bank of China Tower
1 Garden Road, Central
Hong Kong
Dear Members of the Special Committee,
I am writing to you on behalf of FM Capital Partners Ltd, which acts as investment manager for funds that own 1,118,138 ordinary shares of China Cord Blood Corporation (the "Company"), equivalent to 1.4% of the Company's ordinary shares currently outstanding. We hereby convey our strong dissatisfaction with the terms of the non-binding proposal made on 27th April 2015, by the Company's largest shareholder, Golden Meditech Holdings Limited, to take the Company private for US$6.40 per ordinary share.
As you know, China Cord Blood Corporation is the largest cord blood banking operator in China with exclusive licenses in Beijing, Zhejiang and Guangdong; 3 out of the 7 total licensed regions in China. It also owns a 24% equity stake in Shandong Cord Blood Bank and a 10% equity stake in Cordlife Group Limited, a Singapore listed peer. In this context, we believe there are several characteristics which make the Company highly valuable:
- Exclusive access to licensed markets: China has been following a "one license per region" policy in its regulation of cord blood banks, which precludes new market entry into the Company's licensed regions.
- Highly cash flow generative operations: The Company generates a very high profit margin on its storage revenue (close to 95% according to our estimate); has negative working capital (customers generally pay upfront); and low future capital expenditure after having built out the Zhejiang operation as well as expanded capacity in Beijing and Guangdong.
We note that a consistent proportion of the Company's new customers choose the all upfront payment plan, where the Company receives payments upfront, including the entire storage fees for the contract period. The upfront payment for future storage is recorded as deferred revenue on the Company's balance sheet.
- Significant growth potential: Driven by the current low penetration rate and new licensing opportunities in other regions.
Despite strong fundamentals, we believe the Company's share price has been held back by decisions that were not in the best interest of ALL shareholders. The Company currently has more than $430m of cash on its balance sheet, yet the Board of Directors has never declared a dividend to its public shareholders, nor has the Company repurchased any shares over the last two years. Instead, the Board of Directors decided to issue convertible notes that were highly dilutive to public shareholders.
In our view, the Company is best valued based on its free cash flow due to the recurring nature of its deferred revenue cash inflow, which is not fully captured in the Company's Profit & Loss account. In addition, our research indicates that the Company's cash profit margin on deferred revenue (storage revenue) is close to 95% which translates into an after tax cash margin of approximately 71% (applying a 25% corporate income tax rate in China).
We believe Golden Meditech's offer significantly undervalues the Company. As shown in the calculations below, Golden Meditech's offer values the Company's operating asset at 4.3x of free cash flow generated in fiscal year ended March 2015, equivalent to a 23.5% free cash flow yield. More importantly, this free cash flow is protected by the Company's existing licenses and is reasonably likely to grow at 10-20% a year driven by an increasing penetration rate and new licensing opportunities. The proposed deal is simply too good for Golden Meditech but detrimental to the Company's other shareholders.
Considering the regulatory barriers to enter the Company's markets and potential growth, we believe it should be worth more than $17.0 per share, or 20.0x free cash flow on a standalone basis if the Company returns excess cash to all shareholders and declares a regular dividend.
Offer price per share $6.40
Fully-diluted number of shares (mil) 121(1)
Equity value $772m
Net cash $437m(2)
Estimated cost to service deferred revenue -$65m(3)
24% stake in Shandong Cord Blood Bank $31m(4)
10% stake in Cordlife Group $21m(5)
Adj. net cash & investments $424m
Implied value of operating assets $348m
FY15
Operating cash flow $96m
Net interest payment (incl. convertible notes) $6m(6)
Estimated cost to service deferred revenue -$14m(7)
Capital expenditure -$6m
Free cash flow (FCF) $82m
Value of operating assets as multiple of FCF 4.3x
In addition to the Company's attractive business and low valuation, the Company has no involvement with Variable Interest Entity (VIE) which we believe makes it a highly attractive takeover target for domestic Chinese companies. Our view is reinforced by the approach from Nanjing Xinjiekou to acquire the Company's assets in China for c. $11.0 per share (assuming the Company's cash assets are not included in the sale) and another approach from Zhongyuan Union Cell & Gene to acquire Cordlife's stake and convertible notes in the Company. We believe both Nanjiang Xinjiekou and Zhongyuan Union Cell & Gene are highly motivated acquirers of the Company.
We would like to remind the members of the Special Committee that your fiduciary duties are to ALL shareholders of China Cord Blood Corporation. The next steps you take will be critical for the Company and will be intensely scrutinised. We urge the Special Committee of independent directors to seize the window of opportunity to maximize value for all shareholders by:
- Rejecting Golden Meditech's inferior offer.
- Starting a formal sales process to solicit the highest offer for the Company.
- If the highest offer falls short of a value that can be achieved by the Company on a standalone basis, immediately return cash to all shareholders.
We are available at your convenience if you would like to discuss any of the points raised in this letter.
Yours sincerely,
Lin Yang
Portfolio Manager
FM Capital Partners Ltd
- Adjusted for convertible notes conversion and company RSU
- As Company reported on 19-Aug-15
- The Company reported $226m of deferred revenue liability as of 30-Jun-15. Our estimate assumes 5% cash cost and 25% corporate tax rate
- Book value of investment
- Based on Cordlife market capitalisation
- Assuming convertible notes are fully converted
- The Company reported a $48m change in deferred revenue. Our estimate assumes 5% cash cost and 25% corporate tax rate
FM Capital Partners Ltd, +44(0)203-130-7100
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