RTO = Ready to offload

In the Business Times on Thursday:
Backdoor listing is the flavour of the season as companies are taking the reverse takeover (RTO) route to the stock exchange instead of initial public offerings (IPOs).
In the first half of this year, the value of announced reverse takeovers (RTOs) on the Singapore Exchange surged to US$969 million - an all-time high that even exceeded the amount raised through IPOs, year-to-date.
Some US$797 million worth of RTOs were announced for the whole of last year - a record by itself - data from Dealogic shows. The first six months of the year have already surpassed this amount. The RTO trail saves time. In contrast, the IPO process involves roadshows, and lodging a prospectus which is then made publicly available on the Monetary Authority of Singapore website Opera for investors to pore over.

My comments in RED.
I have never been a fan of the RTO process and the new business that comes along with it. In my opinion, the greatest beneficiary of such arrangements are the vendors and owners of the new business. Perhaps for the long suffering shareholders, the only good thing is that they are now able to sell their shares in the open market as a result of an increase in trading volume caused by the buzz surrounding the impending RTO deal. I will dissect the numbers in the RTO recently announced by Showy International to illustrate why it is a lousy deal.

On 7 july:
Showy International Limited is pleased to announce that the Company has entered into a conditional sale and purchase agreement (the “S&P Agreement”) dated 7 July 2008 with Newest Luck Holdings Limited (“Newest Luck”), Leap Forward Holdings Limited(“LFH”), Tan Hoo Lang and Tan Fuh Gih (together with Tan Hoo Lang, referred to as the “TanBrothers”) (collectively referred to as the “Vendors” in this Announcement), for the proposed acquisition by the Company of the entire issued and paid-up capital of Fortune Court, and the allotment and issue of shares in the Company as consideration for such acquisition, resulting in the reverse take-over of the Company.

Fortune Court is engaged in the property development industry in Chongqing. Fortune Court’s subsidiary, Chongqing Yingli Real Estate Development Co., Ltd (“ChongqingYingli”), is a premier property developer in Chongqing with a unique track record of old city reconstruction. It has since developed several major commercial buildings, such as Future International and New York New York. As at 30 June 2008, the total gross floor area (“GFA”) of completed properties held for investment by Chongqing Yingli is approximately 140,621 sq m, comprising commercial area of 78,985 sq m, office area of 22,668 sq m, residential area of 485 sq m and car park space of 38,483 sq m. In addition, the total estimated GFA of Chongqing Yingli’s land bank as at 30 June 2008 is 512,329 sq m. Chongqing Yingli engages third parties to assist in the project management of its properties and to provide project consultancy services.

Showy International shall acquire the entire issued and paid-up capital of Fortune Court for an aggregate consideration of S$545.39 million. The Consideration shall be satisfied by the allotment and issuance of a total of 1.65 billion new ordinary shares in the capital of the Company at the issue price of S$0.33 each. In the end, the total number of shares outstanding will be 1.779 billion.

So the million-dollar question is, is the acquisition amount for Fortune Court cheap or expensive?
Lets take a look at the 2007 financial figures of Fortune Court.
Revenue: S$49.2 million
Profit from operation: S$12.54 million
The fair value gain on investment properties is paper profit and non-recurring in nature. Thus it is not taken into consideration for the calculations.
Book value: S$206 million

Earnings went up by 30% between Y2006 & Y2007. Assuming Fortune Court can eke out the same amount of growth this year (very unconservative assumption considering the China real estate market was red-hot in the past few years), the earnings should reach S$16.3 million in Y2008.
In actual fact, Fortune Court is being valued at a PE of 33.4 (545/16.3). The return on investment is 2.99%! Wait, some may say that the value of Fortune Court lies in the properties and land they are holding. So lets see how much over valuation did Showy agree to pay.
The premium paid by Showy is a whopping S$339 million! (545-206). After this whole acquisition is complete, the forecasted EPS will be S$0.0092 (16.3/1773). If the above figures do not put you off, nothing will. The acquisition price of S$545.39 definitely do not look cheap.
But again, RTO deals are not meant to be cheap. Refer to my title for this posting again. Caveat emptor!!