Chinese going private transactions have been a fertile hunting ground for good merger arbitrage opportunities the past couple of years. I would have expected that this opportunity would have disappeared by now, but merger spreads remain big. I recently participated in the going private transaction of China Shengda Packaging Group, and this deal had a spread of ~8% right till the moment it was completed. WuXi PharmaTech (NYSE:WX) offers a similar spread with the stock trading at $43.00 while the going private offer is $46.00/share (less a $0.05 ADS cancelation fee) for a net spread of 6.9%.
The big difference is that WX is not an obscure company with a <$100 million market cap, but a mid-cap with a market cap of $3 billion. This always makes me a bit more uncomfortable, because that means that the big spread isn’t simply the result of the lack of liquidity or a lack of attention. In the case of WX the spread is most likely completely the result of risks associated with Chinese companies. Some perceived risks are probably not an issue while others are real. It’s for example highly unlikely that WX is a fraud, but the recent decline of the Chinese equity indices could be problematic. Relisting the company in China where valuations are higher is probably the idea behind the going private transaction. I don’t think this risk is very big though. Since the definite merger agreement was signed in mid-Augustus the price decline of Chinese A-shares has been relatively modest compared to the drop earlier this year.
What also makes this deal attractive is that the transaction is done at a relatively small premium. If we take the simplistic view that WX will trade down to the undisturbed predeal price of $39.50 if the deal fails our downside is just $3.50/share while our upside is $2.95/share. This means that the market is implying a probability of less than 60% that this deal is going through, which I think is ridiculously low. Financing is in place, the buyer group is well connected in China, there is no regulatory risk and WuXi PharmaTech appears to be a high-quality company. Overview of the transaction:
As always, I might be missing something: but this looks like a good risk to take.
Author is long WuXi PharmaTech