- Take-private is 'left hand, right hand deal', says shareholder
- Priced at discount to peer and precedent trading multiples
- Special committee headed by corporate governance expert
- Recent Cayman 238 rulings penalize non-arms length deals
- Chindata net leverage set to rise above 5.5x from 2.8x
- Significant number of known dissenters on the register
When reports emerged in early 2022 that Chindata Group [NASDAQ:CD] was ‘fielding preliminary takeover interest” this news service thought the Bain Capital-controlled company’s sale process might involve higher-than-usual corporate governance standards for a Chinese ADR deal. We were wrong.
Ten days ago the Cayman-incorporated, APAC emerging markets-focused provider of carrier-neutral hyperscale data center solutions, announced it had agreed a USD 3.16bn equity value take-private (at USD 8.6 per ADS) with its major shareholder Bain Capital and a few long-term investors that will roll over.
The offer, from a buyer group that holds 65.67% of the equity and 95.26% of the voting rights, values Chindata at 9.4x EV/FY23 EBITDA estimates, according to Fidessa brokers consensus data compiled by Factset.
The mildly improved offer (up from an initial USD 8 per ADS) has been met with a desultory response from disinterested minority shareholders and commentators. One shareholder described it as a “left hand, right hand” deal, in reference to the non-arms-length basis of the transaction. Reuters said Bain has taught a refresher course in the perils of being a minority investor, and earlier described the sale process as “absurd”.
The deal, which is expected to complete in 4Q23 or 1Q24, now looks set to become yet another in a long line of Chinese ADR take-privates that is dissented by funds that believe these deals are systematically undervalued and abusive of minority shareholder rights.
The offer comes at a healthy 42.6% premium to the undisturbed price on 5 June – just before Bain’s initial indicative offer. But it’s 36.3% below Chindata’s 2020 IPO price of USD 13.5 per ADS and is well below a USD 9.2 per ADS indicative rival bid from China Merchants Capital (CMC) that valued the data center provider at 9.9x EV/FY23 EBITDA estimates.
As reported, Bain was able to rebuff CMC’s advances because it alone controls 87.39% of Chindata’s voting rights (but only 42.17% of the economic rights) thanks to the disproportionate voting power that comes with the company’s Class B shares – all of which are owned by Bain entities.
Special committee scrutiny
Curiously, neither Chindata nor its three-member special committee, which exists to protect minorities’ interests and was set up two days after Bain's initial bid on 6 June, publicly acknowledged CMC’s 9 June approach until the Chinese asset manager itself made it public a month later. To be fair, Bain stated in its initial bid approach that it does not intend to sell its shares to a third party. But even so, the failure to inform minorities of a substantially higher offer from one of Asia’s largest alternative asset management firms seems questionable. The oversight is particularly strange considering the special committee’s chairman, Thomas J Manning, has taught “courses on corporate governance”.
The special committee will also come under scrutiny for allowing Bain to include a 12% maximum dissent condition in the merger agreement. The right to dissent from the merger and seek a court adjudicated fair value appraisal was built into Cayman Companies Law to “act as a safeguard” against a merger regime set up to favour controlling shareholders. The threat of dissent was the special committee’s Ace negotiating card and minority investors will question how well it was played.
For more on the dissent trade involving Chinese ADR take-privates, and recent court-related developments, see here.
Bain is unlikely to use the max dissent condition to walk away as the deal is too attractive. The financial sponsor's own press release for the deal celebrates Chindata’s recent earnings and the “strong growth” since its IPO. It would not be a surprise if Bain hopes to relist the company in mainland China or Hong Kong like so many other Chinese companies that have been taken-private from the US markets. The relisting in 2018 of former Chinese ADR Mindray Medical, under the name of Shenzhen Mindray Bio-Medical Electronics [SHE:300760] turned its co-founder Li Xiting into a billionaire and Singapore’s wealthiest man.
Most likely, a breach of the dissent condition will just delay the deal somewhat, as Bain attempts early settlements with dissenting shareholders – similarly to the take-private of Sina Corp. So far, none of the previous Chinese ADR take-privates where the max dissent threshold was exceeded have been terminated.
From a minority shareholder’s perspective, the prospects of a favorable fair value court ruling in relation to Chindata look decent, considering the rejected higher offer from CMC and the deal’s EBITDA multiple, which looks extremely light on a comparable companies’ and precedent transactions basis.
APAC and international comps
Chindata’s local China-focused peer GDS [NASDAQ:GDS, HKG:9698], which is highly leveraged, is trading at 10.5x FY23 EBITDA estimates whilst APAC regional peer NextDC [ASX:NXT] is trading at 13.2x. VNET Group [NASDAQ:VNET], another Chinese ADR (which is subject to a stalled indicative low-ball take-private), is trading at 6.55x FY23 EBITDA estimates. However, as our sister product Debtwire recently pointed out, VNET is facing material refinancing risks.
Internationally, US data center operator Equinix [NASDAQ:EQIX], which has a USD 71bn market cap, is currently trading at 23.4x forward EBITDA, whilst USD 35bn mkt cap Digital Realty Trust [NYSE:DLR] is at 12.9x.
The Chindata/Bain deal price also looks weak from a precedent deal perspective. Earlier this year, Axa Investment sold pan-European data centre Data4 to Brookfield [NYSE:BAM] for around EUR 4bn at a reported 29x EBITDA multiple. And in 2021 a host of US data center deals involving the sale of QTS Realty Trust, CoreSite Realty and CyrusOne were completed at around 25x- 26x estimated 2022 EBITDA.
A few hedge funds have said the attraction of dissenting Chinese ADR take-privates has dimmed a little in the past year due to increasingly protracted timelines between deal completion and trial, the complexity of cases involving so many funds, and various interlocutory rulings, as well as actual fair value judgements, that have not all gone the way dissenters had hoped (ie Qunar).
However, two recent fair value Cayman court judgements, involving the take-privates of iKang Healthcare and Trina Solar, which ruled strongly in favour of the respective dissenters may have put a bit of pep back into funds’ willingness to pursue the trade.
And it is these rulings that will be of concern to the Chindata/Bain Capital deal parties.
Recent Cayman court rulings
In June, the Cayman Islands Court of Appeal (CICA) overturned an earlier ruling by the Cayman Grand Court relating to Trina Solar’s USD 11.6 per ADS (USD 1bn equity value) buyout in 2017, saying that the process by which the company was taken private was so flawed that “zero weighting” should be given to the merger price when determining fair value.
The CICA said the Grand Court judge had erred in 2020 when he established a fair value price of USD 11.75 p/ADS based 45% on the merger price, 25% on a DCF valuation, and 30% on the adjusted trading price. Among other problems, the CICA flagged “significant deficiencies in the market check process”, “deficiencies in the fairness opinion” and “concerns about the independence of the special committee” and ruled that fair value should be calculated using only the market value (30%) and a DCF valuation (70%). Law firm Walkers, which represented the dissenting shareholders, noted that the CICA said "the company has escaped very lightly".
The CICA’s final fair value award has yet to be made public. Based on guidance contained in the 155-page CICA ruling, the Flash suspects that it will result in an increase of at least 25% over the original merger price – and possibly significantly more.
The iKang Healthcare Cayman Court ruling, which was made public shortly after the Trina Solar appeal judgement, similarly criticized the merger process for the USD 20.6 per ADS take-private that completed in 2019 and underwent a trial in April 2022. According to Appleby, the judge said the buyer group’s ability to veto any competing transaction, together with the deal’s limited market checks, the company’s poison pill rights agreement, and the chairman’s unwillingness to release his grip on the company meant the take-private price was likely to be below what would be paid by an arm’s length buyer in a competitive bidding process.
The judge dismissed the merger price as an indicator of fair value and said a 90% weighting should be given to a DCF valuation and 10% to a comparable companies’ analysis. It’s not yet clear what final fair value award the Court will arrive at, but precedent judgements based largely on DCF valuations have resulted in fair value awards significantly above the merger price.
Chindata: a strong case for dissent?
Reasons why the Chindata take-private may see a high proportion of dissent include the facts that:
- the sale process looks weak from a corporate governance and valuation point of view
- Cayman courts are increasingly penalizing deals struck on a non-arms length basis
- There are a host of known and habitual dissenters on its shareholder register
It should be noted that there are also a few reasons why funds might hesitate to dissent or will happily take an early settlement offer. For one, Bain’s tactic of coming in with a low-ball initial offer that locked down the share price and then bumping it by 7.5% when signing the definitive merger agreement (DMA) might just sate the appetite of merger arb funds unwilling to engage in a protracted legal action. Another deterring factor is the increasingly protracted timelines of recent dissent cases such as that of 58.com, which delisted in late 2020 and was still in pre-trial litigation earlier this year (current status not clear). As reported, dissent actions have not been helped by China’s data privacy laws, which are hampering a variety of international court proceedings.
Yet another concern will be the political risk surrounding Chindata. Some 86.3% of its revenue last year came from Bytedance, the Chinese owner of TikTok, which is heavily exposed to US regulatory scrutiny and a political pawn between Washington and Beijing. One hedge fund even expressed concern as to whether Chindata will pay up in the event of a future punitive Cayman court fair value award.
Nonetheless, the Flash suspects the opportunity to dissent Chindata will prove too strong for many funds even if some of them will look to achieve an early settlement. Assuming the deal is dissented en masse, Bain will have two main courses of action:
- attempt to settle early with some funds to get the overall dissent percentage as low as possible and then complete the transaction and endure the lengthy litigation battle with the remaining dissenters, possibly all the way to trial.
- attempt to settle but walk away if it cannot get comfortable with the dissent risk. In such a scenario it’s possible – but seems very unlikely – that Bain opts to introduce a third-party equity provider (CMC?) to inject further equity or to provide a bulwark against a future adverse court ruling.
Potential impact on Chindata’s financial profile
If the deal faces substantial dissent, it’s feasible that this will have implications for Chindata’s financial profile.
The take-private will be funded by a combination of cash contributed by Bain and Keppel Funds, equity rollover and debt financing provided by domestic banks. The acquisition of the remaining 34.33% held by disinterested shareholders will require USD 1.082bn.
As per equity and debt commitment letters, Bain and Keppel Funds will commit a combined USD 343m in equity with Shanghai Pudong Development Bank (Lujiazui Sub-branch) and Industrial Bank (Shanghai Branch) providing a USD 1.65bn total debt package.
The deal will raise Chindata's net leverage to above 5.5x from 2.8x presently, according to Dealreporter's analytics. Credit rating agency Moody’s responded to the deal announcement saying it was placing Chindata Group Holdings Ba2 corporate family rating on review for downgrade as the privatization is likely to result in meaningfully higher leverage, reduced corporate transparency and other uncertainties.
The extent to which a dissent payout raises Chindata’s leverage is difficult to determine as any court-adjudicated ruling and therefore subsequent payout will not land for at least 18 months following the deal’s completion. Nevertheless, dissent from 12% of the share capital with a court ruling that fair value is 25% above the merger price would require Chindata’s owners to stump up an additional USD 94.6m.
The table below provides some guidance as to what Chindata’s leverage would look like under different fair value award scenarios.
*comps range from around 9x estimated 2022 EBITDA to 30x
As Bain states in its deal press release, Chindata is performing well despite China’s economic slowdown. According to a recent Debtwire report, Chindata’s revenues could potentially increase by 42%, or CNY 3.2bn [by FY25], from CNY 4.55bn in 2022. The same report expects adjusted EBITDA to improve to CNY 3.768bn in 2024 from CNY 2.374bn (USD 344.2m) in 2022.
Chindata’s leading non-buyer group shareholder is Canadian pension fund CPP Investment Board (CPPIB) with 5.92%. Asked to comment on the corporate governance aspects of the deal and whether it planned to dissent, a spokesperson said CPPIB does not comment on specific investments.
Other leading minority investors include: MY Alpha Management (4.67%), and Krane Funds (3.22%). Vanguard (2.58%), Millenium Management (2.54%), Oasis Management (1.78%), Sylebra Capital (1.68%), Carmignac Gestion (1.65%), Norges Bank Investment (1.40%) and Maso Capital (1.3%). Several of these are habitual dissenters and it’s likely other minorities will now be evaluating whether to be first time dissenters.
The deal will almost certainly bring an end to Chindata’s short and troubled life as a listed company. Having peaked at around USD 24 per ADS following its 2020 IPO the stock has performed poorly ever since, marred by an ongoing legal battle with its ousted co-founder and former CEO Jing Ju, and accounting scrutiny from the SEC under the US’ Holding Foreign Companies Accountable Act. In response to the SEC, the company said it would pursue “all strategic options” to protect the interests of “its stakeholders”. In hindsight, the reference to stakeholders rather than shareholders looks to have been a subtle harbinger of things to come.
Bain Capital declined to comment beyond its press release. Dongning Wang, an IR for Chindata, did not respond to enquiries directed at the company and the special committee. Manning did not respond to a request for comment.
