Having an avenue to ride along with the acquirers may reduce the tension and criticism such deals normally draw

 

WHEN I first saw the headlines about precision plastic components maker Sunningdale Tech being taken private, I thought we were headed for another round of handwringing about the future of the local stock market being threatened by delistings.

 

Then, I read the lengthy announcement of the deal and realised this was a somewhat different story.

 

Sunningdale may well be on its way to being delisted, and that will probably not be positive for the vibrancy of the local market. But Sunningdale' s minority shareholders are being offered the opportunity to remain invested in the company after it goes private.

 

Under the deal, Sunningdale' s chairman and major shareholder Koh Boon Hwee and a unit of Novo Tellus PE Fund 2 are offering to pay S$1.55 per Sunningdale share.

 

Shareholders of Sunningdale can choose, in lieu of this cash consideration of S$1.55 per share, to be issued with 1,550 shares in the holding company of the acquiring vehicle (HoldCo) at an issue price of S$0.001 each.

 

This might well tempt some investors to accumulate Sunningdale shares in the market now, with the intention of electing to receive shares in HoldCo instead of cash.

 

They would essentially be positioning themselves to ride along with Mr Koh and Novo Tellus, betting that a stint as a privately held company will enable long-dated investments and initiatives that significantly increase Sunningdale' s value.

 

Mr Koh currently owns 15.6 per cent of Sunningdale, while Novo Tellus owns no shares in the company.

 

Shares in Sunningdale closed at S$1.51 on Friday.

 

To be clear, I am not suggesting that holding unlisted shares in the offshore entity that will own Sunningdale would fit the risk profile of every investor. I' m not sure I have the stomach for it myself.

 

Investors should also keep in mind that there is a cap on the number of HoldCo shares that will be issued. If demand exceeds this cap, the maximum available HoldCo shares will be allocated on a pro-rata basis. The balance of the consideration for Sunningdale shares will then be satisfied in cash.

 

Still, the mere availability of the option for Sunningdale minority shareholders to remain at least partially invested after the delisting might excite the market, and reduce the tension and criticism that such transactions normally draw.

 

Conflicts of interest

 

Major shareholders face a conflict of interest as soon as they contemplate taking their companies private.

 

Even when minority investors are presented with an offer price that is significantly above market price, they often feel short-changed because the market price itself was depressed. On top of that, such offers usually exclude minority shareholders from participating in the upside that the acquirers might unlock once the company is taken private.

 

The fact that independent financial advisors (IFAs) enlisted to examine these deals usually find them to be sufficiently fair and reasonable, and that independent directors (IDs) never fail to wave these transactions through, only creates doubts about the effectiveness of the rules and procedures that are in place to protect the interests of minority investors.

 

With Singapore' s compliance-driven approach to corporate governance, questions about whether IDs are suited for their roles tend to emerge only after these deals draw intense scrutiny. This often ends up fuelling suspicion that the whole field is tilted against minority investors.

 

Sunningdale itself could face some tough questions in the weeks ahead as investors look closely at the offer from Mr Koh and Novo Tellus.

 

Among the IDs sitting on Sunningdale' s board is Loke Wai San, who is a founder and managing director of private equity adviser Novo Tellus Capital Partners. Mr Loke is also a director of HoldCo and the acquiring vehicle in the Sunningdale offer.

 

This would naturally raise questions in the minds of some investors about what Mr Loke might have contributed to board discussions in the months leading up to Mr Koh and the Novo Tellus fund making their offer for Sunningdale.

 

Yet, in this instance, the concerns of minority investors might be assuaged by the avenue available to them to keep their interests aligned with those of the acquirers.

 

Instead of obsessing over how much the acquirers might profit at their expense, minority investors might simply focus on determining whether S$1.55 is an acceptable exit price and, subsequently, whether accepting the consideration in cash or HoldCo shares makes more sense.

 

Acceptable price?

 

For 2019, Sunningdale reported a 7.3 per cent decline in revenue to S$673.8 million and a 43.3 per cent drop in " core" earnings to nearly S$11.9 million. The weaker performance was attributed to the relocation of a plant from Shanghai to Chuzhou, and the opening of a new plant in Penang.

 

For 9M 2020, the company reported a 10 per cent decline in revenue to nearly S$455.7 million. This was partly due to weaker demand and plant closures due to Covid-19. Its " core" earnings, however, jumped 56.7 per cent to nearly S$10.7 million, because of the completion of its plant relocation, improved product mix and cost controls.

 

The offer price of S$1.55 per share values Sunningdale at S$297.5 million, which is 25 times the company' s earnings for 2019 and 21 times the annualised earnings it achieved for 9M 2020.

 

On the other hand, the S$1.55 offer price is 22.5 per cent less than Sunningdale' s net asset value (NAV) as at Sept 30 of S$2 per share.

 

Fu Yu Corp, a company often compared to Sunningdale, currently has a market cap of S$184.5 million, which is only 10 times its earnings for 2019 and 11.3 times the annualised earnings it chalked up for 9M 2020.

 

Shares in Fu Yu are trading almost 10.4 per cent above its NAV as at Sept 30.

 

Get into HoldCo?

 

Sunningdale' s CEO Khoo Boo Hor and substantial shareholders Goi Seng Hui and Yarwood Engineering & Trading have each provided irrevocable undertakings to vote in favour of the deal. They collectively own 18.1 per cent of Sunningdale' s shares.

 

Mr Khoo has also agreed to accept cash for the Sunningdale shares he owns, and to use the proceeds to subscribe for HoldCo shares. Mr Khoo owns more than 4.2 million shares in Sunningdale or 2.2 per cent of its total outstanding shares.

 

Mr Goi and Yarwood Engineering have agreed to accept shares in HoldCo as consideration for their shares in Sunningdale. They each own 15.3 million shares in Sunningdale, or nearly 7.97 per cent of the company.

 

If all other minority shareholders of Sunningdale opt to receive cash for their shares, Mr Goi and Yarwood Engineering will together end up with almost the maximum amount of HoldCo shares that will be issued for this purpose.

 

In this instance, Mr Koh would own 42.89 per cent of HoldCo, Novo Tellus 24.08 per cent, Mr Khoo 4.48 per cent, and Mr Goi and Yarwood Engineering 14.28 per cent each.

 

On the other hand, if every minority shareholder elects to receive HoldCo shares as consideration, then Mr Goi and Yarwood Engineering would end up with just 3 per cent each in HoldCo. The other minority shareholders of Sunningdale would collectively end up with 24.01 per cent of HoldCo.

 

Mr Koh would have a somewhat smaller stake of 41.44 per cent in HoldCo. Novo Tellus and Mr Khoo would still own 24.08 per cent and 4.48 per cent, respectively.

 

The big question for minority investors of Sunningdale is whether the eventual return of riding along with Mr Koh and Novo Tellus will be worth the obvious risks.