Description

This is an M&A-speculation idea and is likely to materialize in the next 3-6 months.

1. What Happened Last Year

In October 2010 HRBN announced a takeover proposal from its Chairman/CEO and Baring Private Equity Asia, to take the company private for $24 per share. In the round Goldman Sachs was reportedly the financial advisor to the CEO and the Baring fund and was to potentially provide debt financing in the form of senior and junior secured facilities of total $470MM. The deal eventually didn't secure sufficient shareholder vote, partially due to lack of experience about US takeover process.

In this round the company was reportedly in close discussions with several Chinese domestic banks regarding debt financing. China Development Bank (CDB), a policy bank in China, has done its due diligence and lent the company $50m in November 2010. It would not be a surprise if CDB resurfaces to offer debt financing in the potential transaction. The involvement of GS, Baring and CDB were important as it highlighted DD efforts and confidence on the business. In our view HRBN's current valuation is depressed due to skepticism about small-cap Chinese ADRs in the US market (>5 halted trading in the past weeks).

2. What's New This Year

Recently Hong Kong-based Abax Global Capital (a 5.4% shareholder of the company) filed a S13D disclosing publicly that it has filed confidentiality / standstill agreements with the company with respect to a possible negotiated transaction. Such confidentiality agreement is typically regarding confidential information of the company in connection with a takeover/buyout transaction. The standstill restricts Abax from purchasing the stock for 18 months or until a definitive agreement is signed on a transaction, whichever comes earlier. This typically indicates a potential buyout has likely entered into the bidding process. Abax is likely to become one of the equity partners with the Chairman, and a new deal is possibly making progress. With ABAX joining the chairman's consortium, the likelihood of getting the deal approved is much higher.

3. Illustrative LBO Math

One major motivation for HRBN to go private is the depressed valuation in the US market. Management found it frustrating as HRBN is currently seeing only high single digit P/E multiple (amongst the Chinese small-cap skepticism in the market). Broader peers in HK trade at notably higher multiple (~11x P/E and ~6.5x EV/EBITDA).

Part of the thesis of the buyout is to delist the company, de-leverage, and re-list in China domestic or Hong Kong market, with multiple expansion. The simple math below shows a PE sortium can comfortably afford the original $24 bid price whilst still making a good return by assuming modest multiple arbitrage. It is quite possible a deal will resurface with the Chairman's consortium controlling more voting interest this time around.

HRBN has diversified product lines of electric motors with leading position in linear motor driven system for mass transportation (future market potential but currently not commercilized). Its historical strong and stable EBITDA margin offers space for cash flow generation and de-leverage.

The math below assumes the Chairman+ABAX consortium will roll over their shares (~37%). Then at $24/share, the sponsors need $472m to take over the remaining shares. This effectively means implied LTM EV/EBITDA of 6.5x. With a moderate leverage of 3x EBITDA (smaller amount than what was offered in last round), assuming blended 8% interest rate and cash sweep (simplified assumption without minnumu cash balance, assuming minimal working capital too). The projections assume consensus figure till 2012 and 2013 as extrapolation. A re-list scenario in Hong Kong with 6.5x EBITDA would point to good return for the deal. 

This simple math serves to illustrate the feasibility of the buyout offer. Therefore the ABAX S13D filing may indeed signal ongoing attemp by the chairman/consortium again. 
 

Use of Fund ($m)                                                        

Bid       24.0                             Net Debt          1.4      

Current Price    17                Implied EV       751.4  

Premium           41.2%              x EBITDA'10     6.5x

Freefloat 19.69 (ex chairman/abax)      

Total USE        472.5                                      

Source of Fund ($m)                                                   

Debt     345.9                           3.0x     EBITDA'10     

Sponsor contribution     126.6   (assumes chairman rollover)                                                     

                                    2010    2011    2012    2013

Rev                              429.6   493.8   588.2   676.4  

YoY                             92.4% 14.9% 19.1% 15%    

EBITDA                      115.3   125.7   159.8   179.2  

Margin%                      26.8% 25.5% 27.2% 26.5%

EBIT                            101.3   109.2   137.2   155.6  

Margin%                      23.6% 22.1% 23.3% 23.0%

Interest Exp.                 (27.7)   (26.1)   (23.6)   (19.5)               Int rate 8%

Tax                              (11.0)   (12.5)   (17.0)   (20.4)               Tax rate 15%

Capex                          (65.0)   (70.0)   (75.0)   (80.0)  

Debt Paydown 11.6                 17.2     44.2     59.3    

Debt Balance    334.3               317.2   273.0   213.7  

Cumulative Paydown                                        132.2  

EV                   6.5x EBITDA                           1,164.6            Return

Equity                                                               950.9  

Of which sponsor                      63.0% 599.1               4.7x

Of which chairman consortium  37.0% 351.8               2.0x

Catalyst