Xiwang Special Steel – not quite so special?

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Despite its name, Xiwang Special Steel  doesn’t really look like too special a deal. The initial public offering,  launched to professional investors last Monday, is reportedly being sold in part to friends of the issuer, with fund managers said to be showing polite but muted interest.

That is partly because of the offer size: the US$215 million-equivalent deal and free float – at the top end of the range – are not large enough to generate  much interest, and also because the steel sector’s growth isn’t stirring the market’s passions.

The listing hopeful is an integrated steelmaker based in Shandong  province. Its product mix consists of ordinary steel primarily for construction and infrastructure projects and special steel goods that are used in a variety of applications.

Banks leading the deal have indicated pricing equivalent to a 2012 price-earnings ratio of about 3.8 to less than five times. This is at a discount to, or in line with, what most direct comparables trade at in an industry that clearly has not outperformed.

Steel IPOs in Hong Kong have had a mixed to poor performance. Looking at recent deals, Winox Holdings,  which makes stainless steel products and came to market in November, was, at press time, down more than 38 per cent since listing. Da Ming International  – which offers coil cutting, coil slitting, surface polishing, plate cutting and forming services and was floated in November 2010 – has since fallen 13 per cent, despite Lee Kee Holdings  taking a stake as a cornerstone investor and Singapore’s Temasek  coming into the book as an anchor investor (but then reducing its position after the start of trading).

While the company makes and sells both ordinary steel and higher-margin special steel products, it entered the market for the latter only in 2010 – and these still represent less than 8 per cent of its turnover.

Revenue grew at a compound annual rate of 18.2 per cent between 2008 and 2010 to more than 5.3 billion yuan (HK$6.5 billion), while net profit over the period grew by more than 148 per cent to more than 490 million yuan. The net margin also increased over the period, but the company received an interest-free loan from a related company, which contributed to the performance.

With a net debt to equity ratio of more than 100 per cent, Xiwang Special Steel remains highly geared. About 80 per cent of the IPO is taking the form of the issue of new shares.

Investors should note this is a company with one production site – and whose top-10 customers account for more than 53 per cent of turnover. In the words of the industry, the business suffers from some element of concentration risk. While some say that raw material prices (which account for more than 90 per cent of the company’s cost of sales) have peaked, they remain historically high. Meanwhile, the sector suffers from overcapacity.

The company’s strategy makes sense. It includes improving its product mix by increasing production of high-value-added special steel products, higher direct sales to end users and entering markets in eastern China.

The IPO should get done, largely because it is small and cheap, but few observers expect its price to pop on debut. The retail offer starts  today, with pricing set for  Friday and listing on February 23.

Philippe Espinasse worked as an investment banker in the US, Europe and Asia for more than 19 years and now writes and works as an independent consultant in Hong Kong. He is the author of IPO: A Global Guide, published by HKU Press.

[This article was originally published in The South China Morning Post on 13 February 2012 and is reproduced with permission.]

(c) 2012 South China Morning Post Publishers Limited, Hong Kong. All rights reserved.