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Mengyan Wang Fin231f - Private Equity Professor McKay Deal Summary Sep.

27, 2012

The Goodbaby LBO Chinas First LBO Transaction

This memorandum will first provide a brief introduction of LBO transaction between The Goodbaby Group and Pacific Alliance Group (PAG) in January 2006. Then the transaction will be analyzed in the following process: Deal Introduction, Deal Background, Business and Financial Analysis, Plausible Upside, and Exit Opportunities. Transaction Introduction By the end of January 2006, PAG purchased 67.4% Goodbaby shares from First Shanghai Group (0227, HK), Softbank Group (SB) and American International Group (AIG) for $122.5 million. iAs a result of the deal, PAG holds 68% of Goodbaby and became the absolute-controlling shareholder, while Goodbaby management increased its share in the company from 29% to 32%. The number of Goodbabys shareholders reduced to 2 and the number of board members was decreased from 9 to 5. After the LBO transaction, PAG made improvements for Goodbabys management structure, with implementation of a series of integrations to help Goodbaby become the absolute market dominance in childrens products industry. Goodbaby stroller had occupied more than 70% share of the domestic stroller market and its US market share had reached 40%. Goodbaby became a famous Chinese brand in the field of childrens good industry. In November 2010, Goodbaby was finally listed on the Hong Kong Exchange by PAG after about five years of waiting and carefully planning. The IPO was priced at the top of the indicative range of HK$4.90 ($0.63) per share for a total issue of 300 million shares with net proceeds of HK $895 million, which gave PAGs cash-on-cash return on the listing data of more than 30 times. Transaction Background Founded in 1989 and headquartered in China, Goodbaby was a leading international durable juvenile products company, which was the largest supplier of strollers in North America, Europe and China. Goodbaby designs, develops, manufactures, markets and sells its products through multiple channels in the domestic and international markets. PAG is a private equity fund registered in Hong Kong, specializing in holding type acquisition. PAG managed approximately $400 million fund. The investment of Goodbaby was its fifth transaction in China. Before the LBO deal, Goodbaby was under the control of Geoby International. First Shanghai Group held 49.5% of Geobys shares, while Softbank China (SB) holding 7.9%, American International Group (AIG)'s China Retail Fund (CRF) holding 13.2%, and PUD company

(Goodbaby management investment holding company registered in the British Virgin Islands BVI) holding 29.4%. Business Analysis PAG chose Goodbaby as an investment target based on rigorous analysis for the business and the industry. I will conduct the analysis following the Good Business Framework. Market Position: Market Leader Goodbaby is the leader of stroller and children's production manufacturers. Its production occupied 70% of the domestic market. Some products in the overseas market conquered 50% market share and market share in the US was 30%.ii Market Growth: High Growth Rate Goodbabys annual profit growth rate was 20% to 30% during the five years before the deal, which was very high. Market Share Trends: Gaining Shares Under the circumstance that Chinas commercial market was rapid developing and the company had more than 1,100 sales counters in China, its very likely that Goodbaby could gain market shares. Business Cycle Risk: Non-cyclical Basic industry cycle did not exist in consumer goods industry, so that Goodbaby faced no pressure from the business cycle risk and could obtain sustained business growth. Free Cash Flow Generation: Positive With the expansion of market share and a steady stream of cash inflows, Goodbabys free cash flow statement exhibited steady growth. In 2007, its FCF, net of taxes, payment of the interest, and dividends after the buying out, was a loss of HK$152.579 million. But in 2008, the company realized a profit of HK$2.48 million and the number in 2009 was HK$ 62.75 million. Return on Equity: High Return Goodbabys sales reached 25 billion in 2005, with net profit of more than HK$100 million and net profit margin of about 5%, which was the top of the industry. The ROE was high compared with the industry average level. Market Stability: Shift in Favor The childrens products industry was facing increasing fixed cost, increasing pressure from distribution channels and development in scientific technology. Goodbaby, the market leader, had advantage of high level of technology development and excellent sales and distribution channels. Thus such market trend was favorable for Goodbaby. In summary, Goodbaby was a good investment target. Financial Analysis Leverage Analysis PAG firstly valued Goodbaby rigorously. According to Goodbabys PE ratio in 2005, its enterprise value was more than 2 billion RMB. The transaction involved 67.4% Goodbaby

shares, which represented a market value of $170 million. However, the price of the deal was only $112.5 million, which was much lower than the actual value. Standing from the point of PAG, this deal was profitable. In order to realize an investment return as high as 400%, PAG decided to use less than $12 million of its equity to finance the deal [(170-122.5)/12]. PAG raised fund for 10% of the purchase price through Goodbaby management group, and then use Goodbaby's assets as collateral to borrow as much as 50% of the purchase prices bank bridging loans. PAG also sold bonds to its shareholders to get money for the rest 40% of the deal price. PAG's acquisition process was completed with bank loans from the Taipei Fubon Commercial Bank loan for amount of $55 million. iii Transaction Process PAG paid $4.49 per share to acquire all the shares from the original shareholders Geoby. The total cost was $ 122.5 million, which was equivalent to 14.4x of Goodbabys PE ratio in 2004. At the same time, Goodbaby management group acquired 82.78 million shares for $2.66 per share from First Shanghai, Softbank and other Geobys shareholders, after which its stake increased to 32.6%. First Shanghai, American International Group and Softbank also benefited in the process of acquisition in. The selling price at the close of the deal was five times of its payment of acquisition. Total cash received from the deal accounted for HK$449 million, with net profit of HK$81.7 million. The selling price was two times of its acquisition payment for both AIG and Softbank.

Plausible Upside After the LBO, Goodbaby developed its market share in international markets. Its broad overseas markets, good industry performance and stable cash flow made the company bigger and stronger. Profitability analysis After LBO, Goodbaby was impacted by the global economic crisis and its revenue experienced temporary decrease. Although its sales fluctuated after LBO, it was still increasing in the long term. After 2009, the companys revenue growth was gradually going back to the right track. To promote long-term development, Goodbaby increased its investment in R&D to improve the innovation ability and gradually established a long-term core competitiveness of the company. During the few years after the LBO, Goodbaby continued to increase its investment in marketing, in order to continue to strengthen its brand advantage and expand global sales. The companys profitability potential was increased significantly after the LBO. At the same time, Goodbaby accelerated integration after the LBO. Production and operating costs could be effectively controlled and management efficiency had also been improved. Financial analysis


Fixed assets represented a small portion of total assets, which indicated less operational risks. When exit, APG would face lower fixed costs and sunk costs. Exit barriers would be relatively low and business risk was relatively small. 80% of Goodbabys sales were from overseas markets. Its developed retail channels and strong market performance generated steady stream of cash flow. In addition, current assets accounted for an average of more than 75% total assets. Its flexible financials indicated that, with the increase in sales, the company could seize favorable investment opportunities to maximize its profits quickly. Even though sometimes sales decreased, the company could still make up for its loss very quickly. Cash flow analysis Although Goodbabys cash flow generated by operating activities experienced small fluctuations during a specific period, the cash flow remained stable in the long term. Operating cash outflow increased in 2007 because of the expansion of production and sales. Due to the gaining shares in both domestic and international markets, cash flow generated from operating activities was abundant after 2008. With the expansion of market share and a steady stream of cash inflows, Goodbabys free cash flow statement exhibited steady growth. In 2007, its FCF, net of taxes, payment of the interest, and dividends after the buying out, was a loss of HK$152.579 million. But in 2008, the company realized a profit of HK$2.48 million and the number in 2009 was HK$ 62.75 million. Overall, Goodbabys corporate profitability, growth, and overall operations were showing steady growth after small amplitude fluctuations. The company realized a stable and healthy development after the LBO. Exit Opportunities As Goodbaby was a worldwide stroller manufacturer leader with market shares of more than 70% in China, its impossible for PAG to exit with strategic sale. Goodbaby was too big to be sold to other bigger public companies at a higher price.iv On 24 November 2010, PAG announced that Goodbaby successfully completed an initial public offering and listing on the Hong Kong Stock Exchange. At the end of the first day of trading, shares of Goodbaby closed at HK$5.80, which was 18.4% higher than the initial offering price of HK$4.90. With the issuance of new shares and a sell down of old shares, PAGs effective ownership of Goodbaby was reduced to 16.6% on a fully-diluted basis, reflecting a holding of 165.7 million shares. Based on Goodbaby's 24 November 2010 closing price and the realization proceeds, PAG's investment represents a 6x gross multiple of cost and a 44.7% gross IRR.v


References and Works Cited


China's First LBO Deal: PAG Acquired a 67.6% Stake of Goodbaby for US$122.5M


PAG purchased Goodbaby Group by LBO


The application of leveraged buyouts in the transaction of PAG acquiring Goodbaby http://czzz.mof.gov.cn/zhongguocaizhengzazhishe_daohanglanmu/zhongguocaizhengzazhishe_k anwudaodu/zhongguocaizhengzazhishe_caiwuyukuaiji/4765/6456/464/201108/t20110804_5846 72.html

China's Goodbaby eyes loans after buyout talks stall


Goodbaby, great exit