Nestle, the world's largest food company, is paying a hefty $1.7 billion for a 60 percent stake in candy maker Hsu Fu Chi International to move deeper into fast-growing markets in China.
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Nestle's biggest deal in China so far will take it closer to its target of 45 percent of sales from emerging markets in about 10 years, and analysts said on Monday securing growth opportunities in China was worth a relatively high price.
"It is certainly not cheap but that is the price you have to pay to get access to this high-growth market," Vontobel analyst Jean-Philippe Bertschy said.
"The fact that Hsu Chen will continue to lead the company is also very positive because he must be very well linked and have a well-established distribution network," he said.
Kepler Capital Markets analyst Jon Cox said: "The deal makes strategic sense as, inevitably, China will become the biggest market for confectionery in the future. It looks a bit expensive at first glance at 3.5 times sales. But you are paying for the future growth prospect."
The Vevey-based maker of KitKat chocolate bars and Nescafe coffee strengthened its dairy business in China earlier this year when taking a 60 percent stake in Yinlu Foods Group for an undisclosed sum.
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"Together with Yinlu Foods and Hsu Fu chi, Nestle will increase its Chinese business from around 2.8 billion Swiss francs ($3.35 billion) in 2010 to 4.2 billion francs," Helvea analyst Andreas von Arx said, adding China could become Nestle's fifth-biggest market.
Nestle shares were down 0.3 percent at 1000 GMT, in line with the European food and beverage sector .
Hsu Fu Chi, which makes sugar sweets, cereal-based snacks, cakes and the traditional Chinese snack sachima, is listed in Singapore and reported sales of 669 million Swiss francs in 2010. It employs 16,000 people.
"The outlook for China's consumption demand is quite positive," said Dan Bin, a fund manger at Shenzhen-based Eastern Bay Investment Management, which invests in Chinese consumer companies. "Nestle has a lot of experience in consumer brands and with the deal, they can build on what Hsu Fu Chi already has in the Chinese market."
Under their agreement, Nestle will buy 43.5 percent of Hsu Fu Chi's shares from independent shareholders at S$4.35, a premium of 8.7 percent over the July 1 closing price -- trading in the Dongguan-based company's shares were halted on July 1 when the companies said they were in talks.
If the scheme is approved by the independent shareholders, Nestle will acquire a 16.5 percent stake from the Hsu family, which founded the company in 1992 and leaving it with 40 percent. The company will then be delisted.
The deal, for which Credit Suisse advised Nestle, requires approval from China's commerce ministry and authorities from Cayman Islands, where the company is incorporated, Hsu Fu Chi spokeswoman Christine Sun said.
"There are some concerns, especially after Coca-Cola's failed bid for Huiyuan. There is a sense that the Chinese government might be trying to protect Chinese brands," Shaun Rein, managing director at China Market Research Group, said.
"I would think that, in this case, it would not be a problem because we estimate the candy company only has about a 5.5 percent of the market, so it is a fairly niche market, and it is also a Taiwanese brand."
The approval process will likely take 3-5 months, a source close to the deal said.
Investors have worried that foreign bids for well-known Chinese brands were off the table since Chinese regulators blocked Coca-Cola's $2.4 billion bid in 2009 for the country's top juice maker, Huiyuan Juice .
However, British drinks group Diageo won approval last month to increase its stake in Sichuan Shuijingfang , China's fourth largest white spirits group.
Nestle's offer came at a time when a series of accounting scandals at foreign-listed Chinese companies have triggered a sell-off in China-based stocks, prompting owners to consider mergers or partnerships.
Shares of Chinese companies listed in Singapore, known as S-chips, trade at a discount to their Singapore counterparts, which is forcing controlling shareholders to seek exits, said Tan Han Meng, an analyst at DMG & Partners.
The FT ST China Index , which tracks shares of Chinese companies listed in Singapore, has fallen 11 percent since the start of the year, versus the Straits Times Index's 1.9 percent fall. ($1 = 1.221 Singapore dollars = 0.836 Swiss francs) (Additional reporting by Lee Chyen Yee, Charmian Kok and Rachel Armstrong; Editing by Vinu Pilakkott and Dan Lalor)