Cordlife

Cordlife: AmFraser guides that CGL previously announced its intention to purchase convertible bonds of China Cord Blood Corp (CCBC), for US$44m (US$19m premium to the US$25m principal), from Golden Meditech (which owns 42% of CCBC). The CBs were issued on 3 Oct 2012 and will mature on 3 Oct 2017; it will pay a coupon of 7% p.a. In addition to the purchase of the CBs, CGL will also be providing a loan of up to US$46.5m to Magnum Opus, an SPV 100% owned by Yuen Kam (Golden Meditech’s Chairman and CEO, and CCBC’s Non-executive Chairman) to purchase the remaining 50% of the CB issue (with the CBs as collateral), at an interest rate of 7%. As expressed in the hosue recent note, AmFraser felt that the risks quite clearly outweigh the benefits. CGL’s shareholders’ equity stands at S$141m at the end of FY6/14, while the whole deal requires close to $120m to fund it. Risks that could wipe out a significant portion of shareholders equity include: 1) Magnum’s ability to repay the loan principal and interest payments, 2) The CBs going out-of-the-money at expiration, which implies booking of losses. The house believe CGL received the short end of the deal, with the biggest beneficiaries being, Magnum (low risk financing secured through the CBs, which could still go out-of-the-money) and Golden Meditech (immediate de-risking of its balance sheet and booking of big gains from the sale of these CBs to CGL and Magnum). In the case where the CBs are out -of-the-money, expect Magnum to default on the loan provided by CGL (since the loan is secured against the CBs) leaving CGL with only US$50m from its redemptions on the CBs; CGL could effectively lose about US$40m (about S$50m). Things could be even worse if CCBC defaults. Red flags at CCBC? The house also spotted some red flags with CCBC that should alarm investors of Chinese companies in general. A quick scan of its financials showed a cash horde that is unusually high (and growing) (Net cash of US$208m vs market capitalisation of US$365m) and no dividends paid since listing, for a company with a supposedly low capex business model. During the last analyst meeting, CGL’s CEO mentioned that this deal will allow CGL access into China through CCBC. However, there were no indications within CGL’s circular or announcements that suggests an agreement between CGL and CCBC would be signed if the proposed deal were to be completed; rightly so because CCBC was never party to any of these transactions. Without any form of legally binding agreement and benefit to CCBC, do not see any incentive for CCBC to take CGL into China. CGL had hoped to avoid this EGM initially by treating this whole deal as two distinct deals (deal sizes less than 20% of market cap need not go through an EGM). However, SGX ruled that the two deals must be treated as one and thus required CGL to hold an EGM. While the EGM will be held only on 5 Nov, the company had since issued $120m of debt. Prior to the announcement of the CB deal, the house had not observed any need for such high level of financing for its ongoing ops, especially since the private share placement in October last year, which raised $33.5m. AmFraser is concerned that CGL could be betting the house on its China dream. Believe the risks quite clearly outweigh the benefits and it looks like the deal is structured against CGL’s favour. Observed many questionable practices relating to corporate governance amongst the parties named in the deal. and the house is placing its Hold recommendation and TP under review, pending the outcome of the EGM and the upcoming 1Q6/15 results due on 11 Nov 2014.