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Montage Buyout Comes With Familiar Allegation

NEW YORK (The Deal) -- Montage Technology Group (MONT) is the latest China-based company to receive a buyout proposal and an attack by a short seller.

Montage makes fabless mixed-signal semiconductors with applications in set-top boxes for home entertainment and memory interface with cloud server applications.

The company received an offer Monday from Shanghai Pudong Science and Technology Investment Co. Ltd. PDSTI is based in Shanghai and funded by the Shanghai government. The technology investor said in a letter to Montage that subject to due diligence it offers $21.50 per share for Montage, which it described as a 34% premium to the Shanghai company's 20 trading day average price.

Montage said it would review the proposal.

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The unsolicited offer came on the heels of a Montage share slump following allegations from a short sale report from Gravity Research that Montage's revenue recognition was fraudulent. Gravity began coverage of Montage on Feb. 6 and has claimed that an entity presented as an independent sales and distribution company of Montage chips and representing about 70% of Montage revenues is a shell subsidiary of the company that likely inflates revenues. Gravity alleged, among other things, that the distributor, LQW, has assisted its parent in gross margins from 2010 to 2011, for example, by an improbable 100% with revenue gains of 73% and a modest increase in cost of sales.

The Gravity reports in early February sent Montage shares down to $16 per share from a range of $22 to $25.

On the news of the bid from PDSTI, Montage shares traded up about $3.65, or 21%, to $20.80 at a slight spread to the offer.

Montage had an initial public offering on Oct. 1 at $10 per share and concluded a secondary offering at the end of January at $21 per share for about 19% of its shares. The largest sellers in the secondary offering were AsiaVest opportunity Fund and Intel Capital Corp.

Montage itself said that LQW is independent and presented bank statements to show its cash and short-term investments in support of its financial reporting.

Gravity countered that LQW could report phantom sales and that bank executives in the People's Republic of China can be bribed to provide such records. Some sell-side analysts have concluded that the Gravity claims are inaccurate.

Montage's share performance prior to Gravity's claims was strong because of its supply relationship with Intel and on increased guidance in December for the fourth quarter. With its fourth-quarter results in February, the company said the audit committee of its board engaged Jones Day to conduct an independent review of the allegations. The company has also said that with both its IPO and the secondary offering, because of the significant revenues that pass through LQW, the relationship with the distributor received attention from investors.

The offerings were run by Deutsche Bank Securities Inc. and Barclays Capital Inc. along with Stifel, Nicolaus & Co., Wells Fargo Securities LLC, Needham & Co. LLC, Chardan Capital Markets and Roth Capital Partners.

The PDSTI offer could be considered opportunistic coming as it did on the Gravity decline. PDSTI also bid on RDA Microelectronics Inc. last year but was outbid by Beijing-based Tsinghua Unigroup Ltd. RDA also has a set-top business, but its primary products are in the smartphone area.

The offer for Montage is a take-under if the Gravity decline is temporary compared to a premium range of 20% to 45% for comparable transactions, according to the Morgan Stanley fairness opinion for the RDA deal.

Stifel analyst Tore Svanberg wrote in a report Monday that the deal looks cheap based on recent deals, including RDA. RDA eventually went at a premium of 33% and a multiple of sales and PE of 2.1 and 13.7 times 2014 estimates. The bid for Montage is a slight premium to the recent secondary, 4 times sales and 15 times earnings, but the company is not in a market as competitive and price sensitive as RDA and, as noted by Gravity, posts impressive gross margins.

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