4 Reasons For The Success Of The Montage Technology Bid

May.23.14 | About: Montage Technology (MONT)


The success of the Montage Technology acquisition comes from the participation of state-owned capital based on preferential policies.

It's unacceptable for PDSTI to fail again in the acquisition of MONT. It's not simply a business, but more regarding the reputation and political issue for state-owned giants.

The special permit boasts strong power during execution of government formalities in accordance with Chinese laws and regulations.

CEC, one of the world's top 500 global companies, will participate in the MONT acquisition jointly with PDSTI, which should make the acquisition a success.

The acquisition price may increase to $22 or more in order to guarantee the conclusion of the agreement and make the decision pass at the general meeting of shareholders.

Reason 1: Macro Policy and Opportunities

The Chinese government is set to establish a special fund of RMB 100 billion for supporting domestic integrated circuit (IC) enterprises. If everything goes well, this fund will be more than the total investment in Chinese IC industry for the past 10 years. This fund is being established because of the policy on information security by China's top leaders. IC has been regarded as a core of information security since the PRISM scandal. As the CPC's National Security Commission and the Central Network Security and Information Technology Leadership Team are established, the electronic industry is crucial to information security.

Although the specific investment details remain under negotiation, some policy-sensitive, state-owned companies have actively started to take action. That's why Spreadtrum Communications (NASDAQ:SPRD), RDA Microelectronics (NASDAQ:RDA) and Montage Technology Group (NASDAQ:MONT) have received acquisition offers since 2013.

Reason 2: Not Only a Business

PDSTI, one of MONT's intended acquirers, is a state-owned enterprise directly under the Pudong District government. The company has registered capital of 2.6 billion yuan and management assets of over 10 billion yuan as of 2013 with sufficient capital and financing capability.

According to PDSTI's announcement on May 13, "The headquarters of the Bank of China approved a facility guarantee of up to RMB3.9 billion (or equivalent foreign exchange). PDSTI also possesses abundant funds itself and has sufficient capital to acquire a company of comparable size to RDA."

PDSTI has been planning to acquire SPRD, RDA and MONT since 2013. However, for SPRD, Tsinghua Unigroup became the final winner by sending an acquisition offer in advance. The deal was done at the price of US$31 per share. PDSTI failed due to insufficient preparation.

For RDA, PDSTI made an offer of US$15.5 on Sept. 27, 2013, and got the "special permit" (that is, the Confirmation Letter for Project Report before action) from the National Developing and Reform Commission (NDRC) on Nov. 5. However, Unigroup raised the price and made a deal at the price of US$18.5 per share on Nov. 11. PDSTI was ready to increase the price, but was rejected by NDRC; later, Unigroup was informed that it had violated the regulations by NDRC and the case was suspended.

For MONT, PDSTI made an offer of US$21.5 on March 10, 2014, and obtained the "special permit" from NDRC to prevent any third-party like Unigroup from unfair competition with a higher price.

As far as I believe, PDSTI - as a state-owned enterprise in Shanghai - already failed twice, so it is unacceptable for it to fail again. If it fails again, the result will be so bad that even the defamation of "inferior financing capability and no success for acquisition and merger" produced during the case of RDA Microelectronics will be believed. So it is not only business, but also a crucial matter for the leader's reputation and political influence.

Reason 3: "Special Permit" On Hand

"If a Chinese company would like to invest US$300 million or above to any overseas or tender project, the company shall submit the project report to NDRC before any action" in accordance with NDRC's 2014 version of Administrative Measures for Verification and Registration of Overseas Investment Projects (Order 9). The confirmation letter for such report is known as a "special permit."

The issuance of a special permit is intended to protect domestic enterprises against unfair competition. NDRC can issue only one special permit for one acquisition case within the effective period, so it means the special permit goes with strong power, which can be seen from the deadlock of the RDA case. Now, PDSTI has a special permit on hand so the MONT acquisition should go smoothly.

Reason 4: Participation of CEC, One of the World's Top 500 Companies

Chinese media published an article of an interview with Zhu Xudong, PDSTI CEO, on May 20 and it told the backstage stories of three acquisition cases. According to Zhu, "a state-owned giant was interested in MONT, but it did not act like Tsinghua Unigroup to try to obtain the opportunity in an unfair way. Instead, it sent a letter to express the intention for joint acquisition. See how nice it is!"

Those familiar with the Chinese IC industry all know that the central government enterprise giant, China Electronics Company (CEC), is almost the only choice for PDSTI. CEC has been listed as a Fortune Top 500 company for years and had total assets close to RMB 200 billion yuan in 2012. It has 17 listed subsidiaries.

CEC is to launch a new round of large-scale asset restructuring and take IC as one of the current primary sectors with higher priorities to be developed with government support. According to an interview in March 2014 with Liu Liehong (CEC's general manager) by the China Securities Journal, the domestic IC industry boomed a lot in 2013. As Tsinghua Unigroup continuously privatizes SPRD, and RDA and the chip packaging company (Jingfang Technology) are listed and have become favorites among investors, it is widely believed that IC companies will soon get listed in the A-share market by batches in the coming years.

Acquisitions and mergers have become the general trend in the Chinese electronic industry, according to Liu. CEC will maximize expansion in the future and push forward the capital restructuring. Meanwhile, CEC is willing to grab the chance to incorporate new businesses into the group system. At present, the capitalization rate is only 20% for IC assets of CEC.

Looking back, CEC should have paid attention to MONT early on because the situation in terms of assets for MONT is very good compared with other IC enterprises listed overseas, except SPRD and RDA. With an outstanding performance concept, MONT is almost the only one left to choose for the acquirers. Furthermore, due to being shorted previously, MONT witnessed a sharp drop in share price and the company is now severely undervalued. CEC certainly wants to acquire independently the whole MONT, but PDSTI has the special permit on hand. In consideration of Tsinghua Unigroup's lesson, CEC has no other choice than a joint acquisition.

In summary, the MONT acquisition will be closed with an agreement before the end of June 2014. CEC will participate in the acquisition in some way (though it may not appear on the stage). For the final agreement agreed at the general meeting, the acquisition price may be raised to $22 or even higher.

Disclosure: I am long MONT. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.