Notions of corporate efficiency, shareholder rights and open investor communications may be new to China. But as the financial and corporate systems undergo their massive restructuring, some companies are already leading the way. The two profiled here – Vanke Co and Founder Group – stand out in different ways, but both see the restructuring process as an opportunity rather than a threat. Vanke Co: Financial Engineering Pioneer
The American legend of T Boone Pickens has a special meaning when it comes to restructuring Chinese enterprises. The tall Texan started out in the 1950s with $2,000, and spent the next 30 years creating a $3 bn empire through a string of takeovers. In the process, the controversial M&A artist was instrumental in changing the structure of US business and the objectives of senior management.
Wang Shi is probably the nearest thing to a Chinese counterpart of T Boone. The chairman of Shenhzen-based China Vanke Co manages stakes in many businesses and focuses on creating shareholder value. Since 1988, Vanke has become the first PRC company to distribute a prospectus to raise public capital in China, the first to accept foreign investors and the first to complete a successful takeover deal. Its growth in that time has been astounding. Sales rose from Rmb150 mn in 1989 to over Rmb1 bn in 1994; profits from Rmb5 mn to nearly Rmb200 mn; and capitalisation from Rmb28 mn in 1988 to over Rmb 1.4 bn in 1994, for both the A and B shares. That rise in capitalisation has come partly from share growth and dividend reinvestment, but Vanke also issued 45 mn shares to raise Rmb450 mn in the Shenhzen B share market last year, the largest flotation at that point.
When told of T Boone’s attributes, Wang nods in agreement at notions of corporate efficiency and management responsibility to shareholders. It was in 1988, before any stock exchanges existed in China, that Wang and his young group of entrepreneurs decided to divide ownership of their modest-sized trading company between the state and individuals. The government supported the experiment, provided Wang could work out a way of doing it.
At the time, ideas about share issuance and a market economy were new in China, so Wang was taking a bold step in defining ownership in a company with net assets of Rmb13 mn. Eventually, it was agreed that managers would own 40 per cent, government the rest. To increase its capital, Vanke hired Hong Kong-based Sun Hung Kai Securities to advise on raising Rmb28 mn worth of OTC A shares. Today, the state owns just 8 per cent of Vanke, after passing on a dividend reinvestment plan which diluted the position of shareholders.
‘The effort to restructure our enterprise was not easy, but virtually overnight we were able to raise attention on a national basis,’ says Wang. ‘Chinese markets have great potential to accept new businesses. Six years ago, we could not have imagined that we could sell shares. Now, Vanke shares are something everyone wants to buy.’
One reason for this success is Vanke’s marketing initiative. Before tackling the sophisticated Hong Kong market, Wang studied the ways of the capital market, becoming China’s first corporate convert to financial communications and investor relations. Vanke ran newspaper advertising to support the sale, and the Hong Kong effort paid off as Vanke senior management became comfortable with international valuation and accounting principles.
Some 27.5 per cent of the offering was privately placed in Hong Kong in the first PRC issue accessible to foreign investors. ‘At the time, the government did not allow more than 25 per cent of a company to be held by foreigners, but it approved the sale,’ says Wang. ‘It was just happy to see the shares sell.’ Over the years, the returns have been formidable. Two Hong Kong investors bought 3.5 mn shares each: one sold in 1990 for a Rmb20 mn profit; the other remains Vanke’s biggest private shareholder, showing a profit on the shares of Rmb80 mn.
After the initial offering and the capital’s allocation to new opportunities, the business flourished. Then, in 1993, Vanke issued B shares on the Shenhzen Stock Exchange to diversify its foreign stockholding base. ‘It’s better to keep A and B shares separate,’ Wang maintains. ‘Auditing standards are different and meeting international standards is difficult for many companies. But we don’t want B share regulation diluted as we are modelled on international norms.’
Vanke opted for Hong Kong rather than an ADR or a Shanghai listing because of its proximity to Shenhzen and because the HKSE arouses attention among international investors. ‘It is not a matter of wanting an ADR,’ says Wang. ‘Vanke’s scale makes it too small for that market. Secondly, our core business of real estate is not very attractive to foreigners at this moment.’ This may change, however. ‘We must make our presence felt globally,’ says Wang. ‘Compared to other developing countries, China has not used foreign capital efficiently. But when it comes to this, China is a funny place. When business seems simple, it turns out to be hard. When the task is hard, sometimes it is easy to accomplish. That is the reason I believe there remains the chance to list ADRs in the future.’
With new capital and confident management, Vanke’s horizons have certainly broadened. What began as a modest trading company has now expanded into property, film production and retailing. According to Wang, one of the main growth strategies will be to acquire small stakes in restructured state enterprises; and Vanke has already made direct investments of over Rmb100 mn in 28 companies, half of which have since been listed. Currently, 20 per cent of Vanke’s profits are derived from these acquired companies.
In October 1993, Vanke led the first stock exchange takeover when it acquired Shanghai property company Shenhua. ‘Before our case there was a hostile takeover attempt by a Shenhzen company in Shanghai,’ recalls Wang. ‘The CEO was determined to complete the takeover, no matter what anyone thought, but he became embroiled in problems, including a court case. However, we succeeded because our offer was accepted.’
In accordance with Chinese practice, none of Vanke’s corporate stakes is over 5 per cent. Wang understands the sensitivities of restructured Chinese companies and is careful when it comes to acquisitions. Regulations require investors to ask permission each time they buy 2 per cent more of a target company beyond an initial 5 per cent stake. This disclosure practice inevitably leads to rises in share prices, making investments more costly. However, with new regulations expected soon, Wang believes Vanke will be able to pursue a more aggressive acquisition strategy.
As the year of enterprise reform proceeds, Vanke anticipates potential takeovers in two key areas: heavily burdened state-owned companies in need of equity; and small companies with market potential. Vanke will focus on the more manageable second area. ‘We are like a small investment bank,’ notes Wang, ‘investing small amounts for big returns. But it’s risky. The government is changing policies, and it is never clear which companies can list shares.’
Moreover, in the rough and tumble world of mergers and acquisitions, Vanke could itself become a takeover target. ‘It’s a game,’ reflects Wang. ‘We take over others, others may take us over. But there are only two reasons why Vanke would be susceptible: poor management or a management so good it attracts attention. If we are taken over, it will be because our management is good. Maybe Mr Pickens would be interested in buying us.’
Founder Group: A New Force in Technology
Microsoft and IBM are familiar names to Western investors. So too, one day, may be Founder Group, a model state enterprise initiated by researchers at Beijing University. Already Founder is rumoured to have attracted the personal attention of one Western investor, Microsoft leader Bill Gates. But the company has spurned his advances, choosing instead to re-engineer its business to raise funds on the global market.
Right now, Founder Group Corporation has 70 per cent of the desktop publishing hardware and word processing software market in China, and it has expanded across Chinese-speaking Asia. With sales growth approaching 100 per cent a year, and expected to reach Rmb2.5 bn in 1995, Founder has earned a reputation as China’s most profitable, and most aggressive, high-tech company. Boasting office locations from San Francisco to Toronto and Hong Kong, 23 subsidiaries, and six joint ventures, its network is certainly impressive.
Founder’s expansion in China and Hong Kong has proceeded at lightning speed, but the group believes it can achieve more. Besides furthering its publishing, hardware and software business, it plans to diversify into biotech, chemistry and financial systems, commercialising research initiatives coming out of Beijing University’s Institute of Computer Science and Technology. To do that, and to maintain its core growth, Founder needs capital.
‘Given the opportunity posed by servicing Chinese-speakers in Asia with our products, we estimate a market worth Rmb17 bn,’ says Lu Yongling, Founder Group vice president of finance. ‘We can win a large part of this market with the necessary capital in place. We will not have trouble selling our stock on the basis of this message. Our IPO will be attractive in Hong Kong, where our brand is better known than others.’
The reason for this high profile is the strength of the Beijing University Founder Electronic Publishing System, which was developed by Professor Wang Xuan of the Academy of Sciences, director of the Institute. The Institute’s innovation is key to Founder. In 1991, Founder presented its local network for Chinese character electronic publishing. In 1992, the Founder colour electronic publishing system made its first appearance, revolutionising the Chinese print business. In 1993, Founder’s international standard word-processing system and a journalist management system were introduced to the market.
Like so many other Chinese entities, Founder will start its transformation by changing from being a state enterprise to a joint stock company. The key to its restructuring will lie in the ties between Beijing University and the company’s managers. While Founder has competed in a market economy since its launch in 1986, the company pays Beijing University a ‘management fee’ on a contractual basis. If Founder has its way, the university will convert its initial capital of Rmb400,000 into a 40 per cent shareholding in a listed company. The rest will be held by various group members, researchers and capital market investors.
To date, Founder’s financing has been made up of some Rmb30 mn in preferential government loans, and Rmb14.2 mn from township enterprises. But the company has been feeling the pinch of monetary policy, and is looking at the Hong Kong H share market as a financing vehicle, with plans to raise Rmb1.1 bn. According to Lu, the group is proceeding with the paperwork and waiting for appropriate market conditions.
Though there is a long line-up of approved H shares looking to list in Hong Kong, and a further seven designated after that, Founder may be on the fast track: with the backing of state leaders like Jiang Zemin, Li Peng and Song Jian, approval for the H share listing is expected soon.
Due to its profile in the Hong Kong market, Lu sees the Hong Kong Stock Exchange as more fertile financing territory than the NYSE. ‘Most Hong Kong newspapers use our products,’ notes Lu. ‘Some have inquired about buying shares. Being well-known is an advantage. As our products are used mostly by Chinese, we are less well-known in the US and may not be as appealing to investors there. Besides, we are acquainted with Hong Kong, and those investors are familiar with China’s technology industry. Hong Kong is where we feel most comfortable to raise money, though we understand that the depth of the US market is impressive and important.’
