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Yuhe Acquires Five Breeder Farms in Liaoning

by 5m Editor
26 July 2010, at 8:31a.m.

CHINA - The acquisition will make Yuhe the largest supplier of day-old broilers in terms of production capacity in China. Day-old broiler output is now forecast at 250 million for 2011, a 67 per cent increase over expected 2010 output of 150 million.

Yuhe International, Inc., a leading supplier of day-old chickens raised for meat production, or broilers, in the People's Republic of China has announced that the Company's wholly owned subsidiary, Weifang Yuhe Poultry Co., Ltd has entered into an asset purchase agreement with Liaoning Haicheng Songsen Stock Farming and Feed Company Limited to purchase five breeder farms in Haicheng City, Liaoning Province for RMB21.3 million (approximately US$3.1 million).

Concurrently, Weifang Yuhe entered into a service agreement with Zhaolin Jiang, the controlling shareholder of Haicheng Songsen, who provides Weifang Yuhe with certain services related to completing the asset purchase transaction in exchange for 300,000 restricted shares of Yuhe common stock calculated at a price of $10 per share with total consideration equal to approximately RMB20 million. The restricted shares are subject to a six-month lock-up period.

Zhentao Gao, Chairman and Chief Executive Officer, said: "Upon completion of this deal, Yuhe will be the largest farmer of parent breeders and the largest producer of day-old broilers in terms of production capacity in China. For the first time, we will also have a production base outside of Shandong Province, an important milestone in our path toward becoming the leading company in the national broiler market in China."

The five breeder farms have a total production capacity of 430,000 sets of parent breeders, covering an area of approximately 52 acres with building coverage of approximately 680,000 square feet. The assets to be purchased include the buildings and equipment for the acquired breeder farms, and the land leasing rights, which range from 14 years to 24 years. Upon the closing of the transaction, Yuhe will have a production capacity of 2.23 million sets of parent breeders.

The Company plans to spend RMB1.6 million (approximately $0.2 million) to upgrade the facilities and RMB200,000 (approximately $29,400) for employee training. The average cost for the Company to acquire these breeder farms (including the expenses for facility upgrades and employee training but excluding land rent and new-issued-share price premium) is approximately 20 to 25 per cent lower than the cost of building such farms from scratch. The unit cost of day-old broilers in those farms is expected to decrease by tow to three per cent compared to the Company's current cost structure due to lower depreciation and operating expenses. The Company expects to have sufficient cash after the payment for this acquisition to fund the renovations and daily operations of the acquired facilities.

In order to ensure the high quality of Yuhe's products, the Company will not take ownership of the parent breeders at the acquired breeder farms. Yuhe plans to take ownership of four vacant farms (with total capacity of 230,000 sets of parent breeders) within seven working days following the completion of the deal and commence renovations immediately thereafter. The takeover of the fifth farm, which has a capacity of 200,000 sets of parent breeders, will be completed by the end of 2010. The Company plans to put the first four farms into production in September of 2010 and the fifth farm into production in March of 2011. This acquisition is expected to contribute an output of 30 million day-old broilers in 2011 and 43 million day-old broilers in 2012.

The Company's hatchery centre will remain in Weifang, Shandong Province. Yuhe plans to engage a third party to ship eggs from Liaoning Province to Shandong Province. The increase in transportation costs will be offset by savings from lower feed costs as Liaoning Province is an important grain planting base with lower grain prices and lower labor costs than Shandong Province. Although the Company's existing sales network has the capacity to absorb the increased output, Yuhe will gradually build local sales networks to provide pre-sales services, marketing, and after-sales support.

Considering the impact of the five breeder farms the Company plans to acquire and assuming the deal closes, the Company expects day-old broiler output of 150 million in 2010 and 250 million in 2011, and based on the anticipated production increase and assuming the average selling price for 2009 of RMB2.74 and a net income margin of 26 per cent, the newly acquired breeding farms are expected to contribute an incremental $3.1 million in net income in 2011 and $4.5 million in 2012.

Mr Gao added: "We believe the terms of this transaction are very beneficial for Yuhe and its shareholders. We are acquiring breeder farms with a skilled management team and staff for significantly less than it would cost us to build such farms from scratch. This deal also represents the first time we are using our stock as a currency for making acquisitions. Mr Zhaolin Jiang's acceptance of restricted shares of Yuhe for the services he provides as part of the deal is a vote of confidence in our business and its future prospects.

"Where appropriate, we plan to use our stock as an acquisition currency, but only if we have a high level of confidence that any future acquisitions match the return profile of this deal, which we expect to be highly accretive and have a positive impact on our revenues, net income and diluted per share earnings. Our ultimate objective, above and beyond achieving revenue and net income growth, is to grow our earnings per share."

Yuhe also announced it is accelerating the openings of the breeder farms it acquired in early 2010 and the construction of its new hatchery. Five of the Company's 13 newly purchased breeder farms have begun operations and additional two breeder farms are expected to commence operations by the end of July 2010. The other six farms are expected to commence operations in the second half of 2010. After construction delays due to cold weather conditions, Yuhe's new hatchery is now expected to commence operations by the end of this month. The Company expects to have 160 sets of hatchers upon full operation and the hatching capacity is expected to reach 208 million day-old broilers per year.

Mr Gao concluded: "We view this as a very attractive time to capitalize on potential acquisition opportunities within our industry. Acquiring existing breeder farms has become a more attractive way for us to expand relative to constructing new facilities from scratch due to the increased prices of raw materials and labor. After this deal closes, we will be the largest producer of day-old broilers in China in terms of production capacity at a time that our industry is undergoing a period of consolidation.

"The recent historical dynamic in our industry has been one of an oversupply of day-old broilers leading to increased competition and falling profit margins. As a result, many of our smaller and weaker competitors have now left or are looking to leave our market because they continued to run their operations at very low levels of efficiency, were not able to upgrade their technical and management systems in the way that Yuhe did, or they are approaching their retirement ages and are looking to sell their farms. Despite the challenges during this period, we have maintained our profitability and been able to significantly grow our business.

"We have emerged from this period as a stronger company and are well positioned to acquire and integrate farms from our smaller and weaker competitors, many of whom are now looking to leave the market. With the exit of these competitors, we foresee what may be an upcoming period of supply shortage in our industry. We expect to benefit from this trend as we are the leading brand in our market. Our reputation for quality is underscored by the fact that our product carries a premium price and, despite the higher prices our products sell for, we achieved significant volume growth in our business during a period of industry oversupply.

"We are also confident in our ability to acquire and integrate breeder farms as evidenced by the smooth integration and operation of the breeder farms we acquired in 2009. We have the management talent and human resources to successfully execute on our strategy. We have built a strong team at Yuhe through internal development and training of new university graduates as well as from our success in attracting highly qualified external professionals. Furthermore, we have a strong financial position to help fund our growth and, as a US-listed public company, this is complemented, where appropriate, by our ability to access the capital markets and/or use our stock as an acquisition currency.

"We are currently evaluating additional targets in Liaoning, Heilongjiang, Jinlin and Henan provinces that represent a total capacity of between 1.0 million and 1.2 million sets of parent breeders. We are committed to delivering sustainable growth in shareholder value and keep this principle foremost in our mind when evaluating any potential future acquisitions."