A123′s Deal With China’s Wanxiang Would Value the Stock at $0.55 a Share
Tom Konrad CFA
|A123 Systems battery cell products (Source: A123)|
It was no secret that A123 Systems (NASD:AONE) was desperate for money. It’s also no secret that Chinese companies are interested in buying Western companies, especially when they can acquire useful technology in the deal. So this morning’s announcement that Wanxiang Group Corporation, a Chinese largest autoparts manufacturer which has significant US operations, had signed a non-binding memorandum of understanding to invest up to $450 million in A123 through a combination of bridge loans, convertible notes, and warrants seems like good news for both companies.
A123′s stock rallied initially on the deal, but has since fallen back. As I write, the stock has fallen back to $0.48, up only one cent from yesterday’s close. The lack of gain puzzled me, especially since A123′s liquidity problems are the main reason it’s been trading at it’s current depressed level at 37% of book value ($1.27 a share.)
While regulatory and shareholder approvals need to be met, and some existing convertible notes will need to be repurchased and retired, it seems likely to me that this deal will go through. Although the US government has a track record of paranoia when it comes to the Chinese, regulators have to know that A123 will likely go bust without a big injection of liquidity, and American investors have not exactly been pounding on A123′s doors.
If the deal is not blocked, I expect Wanxiang will make the whole investment. After all, this investment for Wanxiang is almost certainly about acquiring A123′s technology and business contacts at a discount, not about short term cash flow. Weiding Lu, CEO of Wanxiang Group, said,
A123 offers industry-leading technology for vehicle electrification and grid-scale energy storage, as well as strong manufacturing and systems engineering capabilities in Michigan and Massachusetts. We think this creates important synergies with Wanxiang, which has been involved in this field for 12 years and has strong R&D and manufacturing capabilities in China, especially as we continue to expand on our strategy of investing in the automotive and cleantech industries in the U.S. This MOU is the first step toward a longer-term agreement through which we plan to build on the foundation A123 has established in the U.S. and help expand the company’s capabilities both domestically and internationally, which we believe would create long-term value to the customers, investors and other stakeholders of both companies.
Since I think Wanxiang is likely to make the full investment, I think the price they are likely to pay is a good short term target for AONE stock. As long as the stock is lower than that, Wanxiang will have an incentive to buy the stock on the open market, rather than exercising their conversion option or warrants, which should provide price support.
Reading the details of the release, $75 million of the investment is to be a short term bridge loan, which does not involve the purchase of A123 stock. The rest is to consist of $200 million in convertible notes (which can become stock) and $175 million which might be invested with the exercise of warrants. An exercise of all these warrants and the full conversion of the convertible notes would result in Wanxaing controlling 80% of the company, or about 680 million shares, based on the 170 million shares A123 had outstanding at the end of July. Doing the math, and assuming that the initial $75 million bridge loan is not used to purchase shares, that’s 55 cents a share.
The current price of $0.48 makes a certain amount of sense, but unless this deal is blocked, Wanxaing has indicated its interest in buying A123 at $0.55 a share, which should put a nice floor under the share price, along with a lot of potential upside as the deal gives A123 new financial stability to execute on existing opportunities and tackle new opportunities in China.
It may also be the case that the conversion price of the notes is not the same as the exercise price of the warrants. If that’s the case, then some of the expected note conversion or warrant exercise would have to take place above $0.55 a share, and this would in turn increase Wanxiang’s incentive to buy stock on the open market.
Given all that, I just bought a little A123, which I expect to
rally as the various barriers to this deal are overcome.
It’s still a small investment, since there is still
no guarantee that the deal will go through, and if, for
some reason the deal does not got through, AONE will almost
certainly continue its slide.
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