Well that was quick. Within days of my posting, RDA dropped over 5% and closed $16.60 today. To reiterate, the takeout price is $18.50. Quick stats:
Gross Spread: 11.4%
Annualized Return: 49.2%
Market Implied Probability: 30%
So what happened? The day before month end (important for people like me) there was an article from China stating the following:
Shanghai Pudong Science and Technology Investment (PDSTI) has obtained the National Development and Reform Commission’s (NDRC) extended approval of its proposed USD 15.5 per share takeover offer for RDA Microelectronics [NASDAQ: RDA], a source familiar with the situation told this news service. The NDRC has extended its preliminary approval to PDSTI for another six months, from 6 May to 6 November, the source added.
According to the new rules, Tsinghua still needs to obtain the NDRC’s preliminary approval for its offer for RDA.
PDSTI had initially made an offer at $15.50/sh for RDA and was trumped by Tsinghua Unigroup at $18.50. BOTH entities are known as state owned enterprises (SOE).
In China, it is customary (but not a defined rule) that any SOE bidding for a company receive preliminary approval from the NDRC in what’s known as a “road pass” The aim of the pass is to prevent bidding wars and driving up the cost for the Chinese state.
The stock is reacting as if NDRC will not approve Tsinghua’s bid and instead award PDSTI the company at $15.50/sh. This would obviously suck for any RDA shareholder.
This changes the equation in a very peculiar way. Previously it seemed from company filings that approval would not be an issue, there was no mention of a road pass, and with the new NDRC rules it seemed Tsinghua simply had to register the deal since it was < $1B and in a non-sensitive industry.
However! DealReporter had alluded to something similar in a January article here:
China’s National Development and Reform Commission (NDRC) is unlikely to grant Tsinghua Unigroup pre-clearance for its proposed bid for RDA Microelectronics [NASDAQ:RDA] prior to the expiry of an outstanding approval that was first given to rival bidder Shanghai Pudong Science and Technology Investment, a source close to NDRC told this news service.
The company issued a response to this article:
We have been maintaining close discussions with Tsinghua Unigroup regarding the regulatory approvals required to complete the Merger, and have provided Tsinghua Unigroup with assistance and information in such regard in compliance with the Merger Agreement. We and Tsinghua Unigroup will continue to cooperate with each other in obtaining the relevant approvals that are required for the consummation of the Merger. We also understand from Tsinghua Unigroup that it is on track to obtain the preclearance of the Merger from the National Development and Reform Commission of China.
In an amended agreement, the company offered RDA a $70MM break fee ($1.50/sh) and extension if approval was not granted:
Pursuant to Article 13 of the New Catalog, if no sensitive country/region or sensitive industry is concerned, overseas investment projects involving an investment amount between US$300 million and US$1 billion no longer require approval from the National Development and Reform Commission (the “NDRC“), but instead are only required to complete the registration with the NDRC. The NDRC is currently in the process of preparing the relevant implementation rules.
Given all this information and its current PX, if one were initiating a new position, the deal looks very attractive for the following reasons:
1) $1.10 downside for $1.90 upside. I think there is still a better then 30% chance of closing. Anyone new to the deal is getting very attractive pricing.
2) If the NDRC were to reject Tsinghua bid, this would be a huge embarrassment for deal making in the country. Especially in light of the changes in NDRC approval that were meant to create a more ‘business friendly’ environment. The difference in bids amounts to $150MM, hardly a sum that should matter for the PRC. Is it possible that they decide to make an example out of this deal? Absolutely, but it would definitely have an effect on all investors.
3) There is no precedence for disregarding a superior bid and accepting a lower one. In fact, a few deals in the past have involved counter bids without ‘road pass’ clearance:
Some examples indicate that multiple NDRC road passes are possible.
In early 2012, Chinese concrete pumping giant Sany Heavy Industry Co., Ltd obtained a NDRC road pass for the acquisition of German company Putzmeister only weeks after Sany’s biggest rival, Zoomlion, had received a road pass in connection with its own bid for Putzmeister. Sany – which was accused by Chinese press of not “playing by the rules” – gazumped Zoomlion by signing a binding agreement with Putzmeister before it had even obtained a NDRC road pass.
When asked to comment on the issue of road pass “exclusivity” in the context of the Sany/Putzmeister deal, an NDRC official was quoted as saying that it was “not necessarily the case” that a Chinese company should have exclusivity by virtue of a road pass.
Early stage outbound investment saw Shanghai Automotive Industry Corp (SAIC) trump China National Blue Star Corp’s bid for Korea’s Ssangyong in 2004, arguing SAIC alone had received approval to bid for Ssangyong. In 2012, unusually Beijing Enterprises Group intervened in Sinopec’s and ENN’s unsolicited joint bid for Hong Kong listed China Gas Holdings, increasing its stake and undermining the Sinopec/ENN bid.
4) There has been no official statement regarding anything from NDRC, Tsinghua, PDSTI, or RDA. Barring the DealReporter article, nothing has changed except the company is waiting for the May 8th deadline to register the deal. So you now have an important question, do you believe the DR ‘source’?
5) There has been chatter that NDRC had sent Tsinghua a letter criticizing the higher bid due to lack of ‘road pass’ however, similar to above, no party has come forward. If there was, why would this not be public knowledge? According to the paragraph below, Tsinghua could make a ‘rectification’ or take a penalty. So even if they did screw up, it doesn’t look like rejection is the natural outcome. It could very well have a simple solution.
The new rules provide that investors who undertake substantive work without a road pass, will be criticized by NDRC in a circular and ordered to make a rectification. Where violations are serious and may cause substantial damage to the interests of the State, NDRC can coordinate with other relevant departments to impose a penalty on that enterprise, and submit or refer the case to the competent authorities to investigate. It remains to be seen how such liability regime will operate in practice.
Conclusion: We have a he said/she said game. There is no ‘official’ response or criticism, only media reports from an unnamed source. One that has been pushed by DR two times already. However it cannot be disregarded, and as it seems the deal is contingent upon some Chinese officials and lobbyists, etc. the edge has been greatly diminished then a few days ago. That said, the risk/reward of the stock looks to accurately reflect this risk and it doesn’t make sense to sell unless further news comes out.
There has been a lot of activity. First PDSTI responded to RDA board:
This morning RDA responded to PDSTI:
It sure sounds like a pissed off shareholder dropping hints through their media contacts in order to get more for themselves. Sour grapes.
RDA Merger Arbitrage
RDA Microelectronics is a merger arbitrage opportunity with a very attractive spread. It was purchased in Nov of 2013 for $18.50 per ADR ($17.70 Last) : http://ir.rdamicro.com/releasedetail.cfm?ReleaseID=806030
The acquirer is Tsinghua Unigroup, which recently acquired SpreadTrum Communications, another profitable deal I discussed here.
The transaction is subject to approval by the shareholders of RDA, and antitrust and other regulatory approvals, and is not subject to any financing condition. The transaction is expected to close in the first half of 2014.
In December of 2013, RDA received Shareholder Approval: http://ir.rdamicro.com/releasedetail.cfm?ReleaseID=816051 The final hurdle is approval from Chinese authorities. Similar to the SPRD deal, Tsinghua is a Government owned entity. Additionally, China has recently changed their approval process: http://www.reuters.com/article/2014/04/10/china-investmentgrade-idUSL3N0N25F420140410?feedType=RSS&feedName=mergersNews
Since this deal is valued at $910MM, the company should be pursuing ‘registration’ as opposed to regulatory approval. This would make the process far simpler. The rules go into effect on May 8th so the company is likely waiting for this deadline to go ahead with registration.
In the meantime, the spread has widened out considerably. It currently offers a 4.2% GROSS spread and 14.7% annualized yield based on 90 day (3 months) closing. With a $15 break price, the market implied probability is only 80% which seems unusually low.
There has been some chatter in the media regarding some shareholders and employees being somewhat disappointed in the deal: http://www.eetimes.com/author.asp?doc_id=1321558§ion_id=36
While employees may be upset due to cultural differences, it should not have an effect on approval IMHO as once registration is complete, so should the merger.
Merger Agreement: http://files.shareholder.com/downloads/ABEA-4NB0X3/3059261787x0xS1104659-13-83199/1493637/filing.pdf
Termination Fee: 450 RMB or about $72MM USD
SPRD Merger Arbitrage
Short and quick writeup on a definitive merger, SPRD is semi-conductor company in Shanghai that is being acquired by a Tsinghua Holdings for $31.00 cash per ADR. The current deal offers the following terms:
- Completely and Privately funded by Tsinghua Holdings, therefore no financing condition.
- 75MM termination fee (4% of the 1.78B offer)
- MAC clause
- Shareholder Approval required
- PRC government approvals required
The economics of the deal based on a $30.30 last price are as follows:
- 2.3% gross yield, 6.59% annualized based on 90 day closing *
- Market implied 94% probabiltiy
* As the shareholders voted in favor of the deal as of September 9th, the final hurdle to closing is PRC approval, which could happen much earlier then 90 days. At 30 days, the annualized return shoots up to 28%! One potential reason for a quick closing is shareholder resentment of a low ball offer, with a company growing aggressively some shareholders were disappointed by the purchase price.
At this point the valuation is probably mute as shareholders, controlled by the CEO and Board, have already voted in favor. As of now it is just PRC approval, here is the relevant information from the proxy:
“Required Approvals” means certain overseas investment approvals, including the approvals of or filings with, as applicable, (i) the National Development and Reform Commission of the PRC or its competent local counterparts and Ministry of Commerce of the PRC or its competent local counterparts with respect to the consummation of the Merger, (ii) the Ministry of Education and/or the Ministry of Finance of the PRC with respect to the consummation of the Merger (if applicable) and (iii) the State Administration of Foreign Exchange of the PRC or its competent local counterparts in connection with the consummation of the Merger, including approvals for conversion of RMB funds into U.S. dollar funds and transfer of U.S. dollar funds to Merger Sub or the holders of Shares or ADSs or other interests pursuant to or in connection with the Merger Agreement and the guarantee from Tsinghua Holdings in which Tsinghua Holdings committed to guarantee the funding of Parent in order to enable Parent to fulfill its obligations under the Merger Agreement (to the extent that funding in U.S. dollars is required thereunder), and, if necessary, clearance under the PRC Anti-Monopoly Law approving the Merger.
The rest of the proxy is here. Also since PRC is the biggest risk, it should be noted that Tsinghau is also a state owned enterprise! I find the current spread somewhat surprising despite being a Chinese takeover, because it is hard to see the risk, comments definitely appreciated!
Deal completed. http://finance.yahoo.com/news/spreadtrum-announces-receipt-tsinghua-unigroup-130000542.html
With Tsinghua Unigroup’s receipt of regulatory approvals, the Merger is expected to be completed during the week commencing December 23, 2013, subject to the satisfaction or waiver of the conditions set forth in the merger agreement.