Dining in the Hong Kong Club early last year, a cashed up and confident Citic Pacific chairman, Larry Yung Chi-kin, spotted former China Light & Power chairman Sir Sidney Gordon. Seemingly off the cuff, he suggested the two companies cut a deal. Within two weeks, Citic Pacific had paid $16.25 billion for a 20 per cent stake in Hong Kong's premier power utility. Shortly before, Mr Yung had completed a management buy-out of Citic Pacific, acquiring a 15 per cent stake for $33 a share. Yesterday, the stock closed at $25.15. Mr Yung has faced painful margin calls while CLP sits awkwardly on an unused $16 billion cash pile. More than a year later, the virtue of both deals must be questioned. Morgan Stanley is understood to have financed most of Mr Yung's purchase but after Citic Pacific's share price collapsed apparently demanded he and his owner-manager colleagues provide fresh collateral. When CLP recently set a special interim dividend from property earnings not yet received, the hand of a cash-strapped Mr Yung was suspected. Still, analysts applauded the move, together with plans to return much of the Citic Pacific $16 billion cash infusion if power deals were not quickly secured. Indeed, CLP's announcement might come to be seen as a watershed in the way Asian firms organise their finances. For perhaps the first time, a leading local blue chip articulated a creed of shareholder value based on an efficient balance sheet. Suggesting idle cash is better off in shareholders' pockets might not sound revolutionary, but in the Asian context it represents a call to arms. Yet the obvious question is, if CLP did not need the money why did it do the deal? At the time, most commentators saw the transaction as overtly political. The companies, for their part, talked enthusiastically of synergies in the mainland power sector. That 14 months later no deals have been done and talk of a possible joint venture vehicle allowing CLP to buy into Citic Pacific's mainland power projects remains just that, speaks for itself. CLP has not committed itself on timing for share buy-backs or a special dividend. Should deals in the mainland, Taiwan or India be concluded, most analysts seem content for an ample war-chest to be maintained. Yet, with the admission that cash in the bank is money wasted, the question is, surely, why? CLP is a utility with highly predictable cash flows, due to Hong Kong's scheme of control. Debt may have got a bad name in Asia, but financial theory says too little is bad for shareholders. This was the rationale for US power firms buying up under-geared British power distributors. CLP's effective retort is 'give us some time'. But how much is enough? Hongkong Telecom, after all, has been singing the same tune for five years despite buying little. The argument is simple. A firm's cost of capital is the aggregate of what it pays to borrow and raise equity. SBC Warburg Dillon Read estimates CLP's weighted average cost of capital at 15 per cent. Yet, with its $16 billion conservatively invested, value is effectively being destroyed with every basis point below that threshold. While agreeing in principle, most Hong Kong analysts usually waffle about the need for a war chest. Yet what makes sense for property developers with volatile cash flows does not for a utility like CLP. It is going to take some years to spend $16 billion, and there seems no good reason not to return the cash, and gear up when necessary. This brings us neatly back to Mr Yung. Having become an owner-manager of Citic Pacific last January, you would have thought shareholder value was at the forefront of his mind. Thus it is especially ironic that, by CLP's own admission, by buying into the firm his actions suggested the opposite. The fallout from the Asian crisis means international investors will be far more exacting. CLP's move should be welcome, whatever the judgment on the Citic Pacific deal. Hong Kong Telecom - a bank masquerading as a telecoms company - must come under pressure to follow suit and do the right thing.
