Which factors are currently driving technology M&A?

Posted on December 19, 2011 by

In this post, I will go briefly through the following factors that I believe are currently driving M&A activity in the technology sector. For each factor, I will provide at least an example whenever possible to back my opinions.

Firstly, we all noticed that the smartphone market has grown rapidly in the recent years. Back in 2006, I noticed that there were not many smartphones compared to other kinds of mobile phones as the consumers were mainly business users. When Apple launched the first iPhone, the product completely revolutionised the smartphone market forcing many players to change the way they design and manufacture these devices. Fast forward to today, we see that there are many models of smartphones, many of which are customisable to suit the preferences of the user.

The smartphone revolution has resulted in the rapid growth of the social gaming industry and the appearance of many essential applications, such as medical and office, which enable users to carry out tasks more easily than before. Many developers have produced many applications that have gone viral and became an instant hit with the general consumer. Therefore, many technology firms have acquired developers of mobile phone applications so that they can produce new applications and social games that they hope will go viral and become successful. For example, Red Robot Labs has announced on December 9th that they have acquired Supermono Studios. They want to fulfil their vision of ‘creating the most engaging and dynamic location-based games in mobile ‘ (1).

Secondly, Google is not competing effectively against Apple in terms of the smartphone handset market.  They entered the market late compared to other competitors as they only launched their first phone in 2010, the Nexus which was manufactured by HTC. However, Google’s Android operating system was first used since they acquired it back in 2005 when HTC launched HTC Dream in 2008. Google has done very well in terms of the smartphone operating system market after initially lagging behind Apple’s iOS. In 2010, the market share of Android overtook that of the iOS into second place. After the first quarter of this year, they eventually surpassed Symbian to become the leading smartphone operating system with 43.4% of the market share.

Source: Gartner November 2011 http://www.gartner.com/it/page.jsp?id=1848514 retrived 19-12-2011

Even though Apple’s smartphone handset market share for the third quarter if this year is only 14.5%, they have the highest operating profit share at 52% (2). Google has a lot of work to do in order to dominate this market.

They decided to purchase Motorola Motability Holdings, a struggling handset maker, for $12.5 billion, $40 per share to acquire vast quantities of their patents (3).  These are more likely to be used to produce a number of handsets to appeal a wide variety of consumers and to improve the Android operating system. However, I believe that Google is trying to protect itself from lawsuits from their competitors as they believe that former has infringed on their intellectual properties (4). Google will have to work very hard to overcome the huge challenges they face right now.

Source: IDC November 2011 http://www.idc.com/getdoc.jsp?containerId=prUS23123911 retrieved 19-12-2011

Thirdly, there is a shift towards cloud computing from traditional computing as businesses and individuals want to access information from any device while on the move. Many companies, including major firms such as Oracle and HP, are buying cloud service providers in order to gain access to their expertise and develop their own services to their customers to enhance their profit margins. They also want to refine their existing services in order to make it even better. For example, Citrix bought Sharefile to refine their services in order to fulfil their vision of providing individuals access to their data anywhere from any device (5). GlobalSCAPE has bought Tappln for $9m to combine the former’s expertise in providing secure cloud storage and data exchange service with the latter’s service which lets users access their data stored on their storage devices anywhere via internet or smartphone (6) (7). Oracle acquired Rightnow for $1.5bn to expand their cloud computing services for their enterprise customers (8).

Finally, Yahoo has been struggling to compete against Google for many years in the search engine and advertising market. A combination of poor management and innovation has partially lead to falling profit margins and share price. In order to survive, they are seeking to sell themselves for the best possible price. A number of parties are interested in acquiring the struggling firm:

  • a consortium consisting of Ali Baba, Softbank Corp, Blackstone Group and Bain Capital (9)
  • Microsoft (10) as they are hoping to gain their expertise in the search engine and advertising market to compete against Google more effectively
  • KKR (10)
  • TPG Capital (10) (11)

The latter three are conducting due diligence, that is, checking thoroughly what exactly are they buying. The former are planning to make a bid for the company for about $25bn.

Sources:

  1. Red Robot Labs Expands Global Presence in the Gaming Industry – Marketwire http://www.marketwire.com/press-release/red-robot-labs-expands-global-presence-in-the-gaming-industry-1596733.htm retrieved 19-12-2011
  2. Apple, With 4 Percent of Handset Market, Captures 52 Percent of Profits http://www.pcmag.com/article2/0,2817,2395951,00.asp#fbid=SLgcdJun7IU retrieved 19-12-2011
  3. Google to buy Motorola Mobility in biggest deal ever – Reuters http://www.reuters.com/article/2011/08/15/us-motorolamobility-google-idUSTRE77E1XF20110815 retrieved 19-12-2011
  4. Google Agrees to Acquire Motorola Mobility for $12.5 Billion – Bloomberg Businessweek http://www.businessweek.com/news/2011-08-15/google-agrees-to-acquire-motorola-mobility-for-12-5-billion.html retrieved 19-12-2011
  5. Citrix Acquires ShareFile, The “Dropbox For Enterprises” – Techcruch http://techcrunch.com/2011/10/13/citrix-acquires-sharefile-the-dropbox-for-enterprises/ retrieved 19-12-2011
  6. GlobalSCAPE® Acquires Innovative Mobile File Sharing Company TappIn™ - Businesswire http://www.businesswire.com/news/home/20111205005044/en/GlobalSCAPE%C2%AE-Acquires-Innovative-Mobile-File-Sharing-Company retrieved 19-12-2011
  7. GlobalSCAPE Acquires File Sharing Service TappIn For Up To $17 Million – Techcruch http://techcrunch.com/2011/12/05/globalscape-acquires-file-sharing-service-tappin-for-up-to-17-million/ retrieved 19-12-2011
  8. Oracle to beef up cloud offer with RightNow buy – Reuters http://www.reuters.com/article/2011/10/24/us-rightnow-oracle-idUSTRE79N34V20111024 retrieved 19-12-2011
  9. Alibaba seeks $4 billion in financing for Yahoo – Reuters http://www.reuters.com/article/2011/12/08/us-alibaba-yahoo-idUSTRE7B70KZ20111208 retrieved 19-12-2011
  10. Microsoft signs confidentiality pact with Yahoo Reuters http://www.reuters.com/article/2011/11/23/us-yahoo-microsoft-idUSTRE7AM21920111123 retrieved 19-12-2011
  11. TPG Capital Enters the Fray for Yahoo – DealBook http://dealbook.nytimes.com/2011/11/03/tpg-capital-enters-the-fray-for-yahoo/ retrieved 19-12-2011
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Will the takeover of Ralcorp Holdings Inc. by ConAgra Foods Inc. succeed?

Posted on August 18, 2011 by

This is my second short M&A analysis. This time I am going to analyse the takeover of Ralcorp Holdings Inc. (RAH) by ConAgra Foods Inc. (CAG). I will talk about the background of the deal briefly before giving my analysis of the transaction.

The descriptions from both companies and the stated benefits of the transaction are based on the deal fact sheet (1).

ConAgra Foods is one of North America’s leading packaged food companies, with brands in 97 percent of America’s households. Many of its brands are sold in grocery, convenience, mass merchandise and club stores. The company has a strong commercial presence, supplying frozen potato and sweet potato products as well as other vegetable, spice, and grain products to a variety of restaurants, food service operators, and commercial customers.

Ralcorp Holdings is a leading manufacturer of private label foods, a major producer of food service products, and the owner of the highly regarded Post cereal brand. The company produces a variety of value and store brand consumer foods sold under the individual labels of various grocery, mass merchandise and drugstore retailers as well as frozen bakery products sold to in-store bakeries, restaurants and other food service customers.

According to ConAgra Foods the acquisition would result in:

  • the top 3rd packaged food company in the US in terms of net sales
  • expansion of their presence in fast growing private label segment in the US food market
  • increases the range of products offered to a wide range of consumers
  • expansion into the high-growth private label category
  • having an international presence in selected fast-growing emerging markets
  • growth in its core branded business and in branded strategic adjacencies

Additional details of the transaction are in this document (2).

Ralcorp Holdings rejects ConAgra’s takeover proposal for a variety of reasons:

  • track record of delivering superior results and shareholder value since they have delivered total shareholder returns of 418% over the past 10 years and 114% over the past five years (3)
  • divestment of Post Foods from Ralcorp would allow each company to focus on specific strategies that would result in better shareholder return compared to Post Foods remaining part of Ralcorp (4)
  • overall the firm has strong fundamentals as of at the close of 18/8/2011. Most importantly, the price to earnings (P/E), price to sales, price to book and price to cash flow for the firm are below the industry and sector averages. These are also below overall market average, except price to earnings and price to cash flow. Current ratio is above 1 so the firm will still be able to pay all of its debts if recalled immediately. Return on assets, return on investments and return on equity ratios are a little disappointing compared to industry, sector and market averages. However, these are minor, in my opinion. Also the firm does not currently pay dividends.

Table 1: Financial ratios of Ralcorp Holdings Inc. compared to those of the Food Industry, Consumer/Non-Cyclical sector and the S&P500 index (5).

From my perspective, in addition to ConAgra Foods’ stated reasons for the takeover, consumers may benefit from this in terms of lower prices for existing products due to lower costs. Consumers in emerging markets which Ralcorp operates in would have access to products offered by ConAgra therefore they have additional choices.

The analysis of the transaction is shown below:

Note that the original offer of $82 consisting of cash and stock is not included in the analysis because the lack of information regarding the composition of the deal, that is, the proportion of the offer in cash and the remainder in stock. For the hypothetical offer of $100 cash and stock, I picked an arbitrary value of $50 cash and 2.0202 ConAgra shares for each Ralcrop share.

The values used for calculating the weighted average cost of capital (WACC) are shown in this document.

Table 2: Comparison of offers that ConAgra Foods Inc. could offer to purchase Ralcorp Holdings Inc.

Looking at all cash offers:

  • These do not represent a good deal for Ralcorp considering its good fundamentals overall and track record of delivering shareholder value. However, these offers do represent a very good deal for ConAgra.
  • WACC for the combined company is 4.9% based on the market capitalisation of respective companies just before the announcement of the takeover.
  • Under the Shareholder value at risk (SVAR) and premium at risk analysis, the higher the offer value post-deal return assuming no synergies are realised for Ralcorp increases exponentially whereas this gets worse for ConAgra. The latter’s SVAR also rises.
  • Ralcorp’s premium at risk is 0% for all offers.
  • Under pre-market reaction analysis, higher the offer, post-deal return for Ralcorp increases exponentially whereas ConAgra’s return falls almost linearly.
  • Under post-market reaction analysis, Ralcorp’s premium at risk is 0%. Higher the offer, ConAgra’s SVAR rises.

Looking at the hypothetical offer of $100 cash and fixed shares:

  • This does represent a much better offer compared to the cash offers since Ralcorp ends up with just over a fifth of merged firm whereas ConAgra would end up with just under 80%.
  • WACC is 5.1%, which is the highest compared to other offers.
  • Under the SVAR and premium at risk model, post-deal returns for Ralcorp if no synergies are realised is 15.9% whereas ConAgra’s is -6.8%. Premium at risk for Ralcorp is 20.5% and SVAR for ConAgra is 6.8%.
  • Under the pre-market reaction analysis model, post-deal returns for Ralcorp and ConAgra are 37.9% and 29.9% respectively.
  • Under post-market reaction analysis, premium at risk for Ralcorp is 27.8% and ConAgra’s SVAR is 9%.
  • This deal is slightly more risky compared to the revised cash offer of $94. However, both firms would receive a fairer and decent amount of return if the deal goes well.
  • Both Ralcorp and ConAgra would end up with good returns if the synergies are realised and strategies go their way.

Examining the hypothetical offer of $100 fixed shares:

  • This offer is superior to the cash offers since Ralcorp would get just over a third of the combined firm whereas ConAgra receives just under two-thirds. This is the most equal of deals compared to others.
  • WACC is 4.8% which is lowest compared to other offers.
  • Under SVAR and premium at risk, post-deal returns assuming no synergies for Ralcorp and ConAgra are 13.2% and -5.7% respectively, premium at risk for Ralcorp is 34% and SVAR for ConAgra is 5.7%.
  • Under pre-market reaction analysis, post-deal returns for Ralcorp and ConAgra are 51.8% and 26.5% respectively.
  • Under post-market reaction analysis, premium at risk for Ralcorp is 46.2% and ConAgra’s SVAR is 7.5%.
  • Ralcorp would end up with a very good return whereas ConAgra would end up with slightly worse one compared to $100 cash and stock offer. The former does take on more risk and the latter has a little less risk.

Based on the analysis above, I would recommend that ConAgra should offer of $100 consisting of $50 cash per Ralcorp share and exchange of 2.0202 ConAgra shares for each share. This is because this deal would represent a good deal for ConAgra and Ralcorp, though the former would end up with a larger return than the latter, and WACC for the combined firm is just a bit higher compared to all cash offers. ConAgra would take a reasonable amount of risk for a decent return if the synergies are realised even though the amount is less than that of Ralcorp’s. The former would lose a small proportion of its value if no synergies. SVAR for ConAgra and premium at risk for Ralcorp is reasonable.

Relevant documents:

  1. Takeover of Ralcorp Holdings Inc. (RAH) by ConAgra Foods Inc. (CAG) – Weighted Average Cost of Capital. Sources used in this document are (5) to (13).
  2. Takeover of Ralcorp Holdings Inc. (RAH) by ConAgra Foods Inc. (CAG) $86 cash
  3. Takeover of Ralcorp Holdings Inc. (RAH) by ConAgra Foods Inc. (CAG) $94 cash
  4. Takeover of Ralcorp Holdings Inc. (RAH) by ConAgra Foods Inc. (CAG) $100 cash
  5. Takeover of Ralcorp Holdings Inc. (RAH) by ConAgra Foods Inc. (CAG) $100 cash and fixed shares
  6. Takeover of Ralcorp Holdings Inc. (RAH) by ConAgra Foods Inc. (CAG) $100 fixed shares

Source:

  1. ConAgra Foods Proposes $4.9 billion Combination with Ralcorp Holdings retrieved 18/8/2011
  2. ConAgra Foods’ Proposed  All-Cash Acquisition of Ralcorp May 4, 2011 retrieved 18/8/2011
  3. Ralcorp Board of Directors Unanimously Rejects Unsolicited Proposal from ConAgra; Adopts Shareholder Rights Plan retrieved 18/8/2011
  4. Ralcorp Board of Directors Unanimously Rejects Revised, Unsolicited Proposal From ConAgra retrieved 18/8/2011
  5. Financials: Ralcorp Hldg Inc (RAH) retrieved 18/8/2011
  6. US Federal Reserve - Selected Interest Rates (Daily) – H.15 retrieved 13-8-2011
  7. Google Finance NYSE:CAG retrieved 13-8-2011
  8. Google Finance NYSE:RAH retrieved 14-8-2011
  9. Zacks Investment Research CAG: CONAGRA FOODS INC – Stock Earnings Estimates (regarding forecasts) retrieved 14-8-2011
  10. Digital Look – ConAgra Foods Inc. (regarding dividends) retrieved 14-8-2011
  11. Zacks Investment Research RAH: RALCORP HLDGS INC NEW – Stock Earnings Estimates retrieved 14-8-2011
  12. ConAgra Foods Annual Report 2011 p.22, 54 and 56 retrieved 13-8-2011
  13. Ralcorp Holdings 10-Q Quarterly report pursuant to sections 13 or 15(d) 05/05/2011 p.7, 13 and 22 retrieved 14-8-2011
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Would the acquisition of TMX Group Inc. be a good deal for LSE Group plc?

Posted on August 5, 2011 by

This is my first M&A analysis in this blog. This time I will analyse the merger of London Stock Exchange (LSE) Group plc and TMX Group Inc. I will talk about the background of the deal briefly before giving my analysis of the transaction.

LSE Group plc stated that this transaction would be a merger of equals. The stated benefits of the transaction are (1):

  • the merged firm would be jointly head-quartered in London and Toronto with a roughly equal proportion of directors from both firms holding new positions on the new board
  • businesses from both firms will have operational autonomy so that the centres of both firms would continue to have specialist roles, such as London for international listing of firms and Montreal for derivatives,
  • the TMX Group businesses will continue to operate in Canada, the country will benefit economically and socially from the merger due to their centres of operation continuing to specialise in certain fields and jobs not moving abroad
  • the strengths of both firms will complement each other to create a stronger and more diversified exchange group that will be able to complete even more effectively against the likes of New York Stock Exchange Euronext
  • the combined group will be the financial market information leader providing a wide range of relevant products
  • the users will be able to trade more types of assets including cash equities, fixed income and derivatives
  • technologies will be shared to enable the merged firm to develop new products and systems even faster which will benefit users in terms of lower trading and capital costs, reduced spreads and increased certainty of trade execution
  • competition between rival Canadian exchanges would be maintained for the benefit of clients
  • the merged firm would be the global leading venue for natural resources, mining, energy, clean technology, international listings from emerging and growth markets, alternative market and in terms of the number of listings
  • and the sales network from both firms will be combined so that they can distribute their products and services easier.

From my perspective, the merger between the two firms would benefit virtually all stakeholders from shareholders of both firms, governments of UK and Canada would benefit economically to users experiencing lower costs. As in all mergers and acquisitions transactions, some employees will lose their jobs and costs need to be reduced.

The analysis of the transaction is shown below:

Comparison of offers that LSE Group plc could offer to purchase TMX Group Inc.

Note that the exchange rate between the British pound and the Canadian dollar on the day of the announcement (9/2/2011) is 1.60121. This rate is used to calculate the value of LSE Group’s offer for TMX.

Looking at LSEs actual offer of 2.9963 LSE shares for each TMX share, equivalent of $42.25 per TMX share, the deal would overall represent good value for both LSE and TMX. If no synergies from the deal are achieved, LSE would lose a small value whereas TMX would lose significant proportion of its premium over the share price of $40.28 on 8/2/2011. The weighted average cost of capital (WACC) post-merger is 7.3%.

If LSE raised its offer to 3.1915 shares for each TMX share, $45 per TMX share, the deal would still represent a good value for both firms. However, LSE’s return will be worse whereas TMX’s has improved. If no synergies are achieved, than LSE would lose more value, in comparison to its actual offer, whereas TMX would still lose significant proportion of its premium. The premium at risk has increased slightly. From the post-market reaction analysis model, the post announcement premium at risk for TMX has fallen by almost 5%. The proportion of the merged company that TMX will own would increase to 46.7% whereas the proportion owned by LSE would decrease to 53.3%. WACC post-merger will fall to 7.2%.

If LSE matched any of the Maple Group’s offers for TMX, the deal would not represent a good value for LSE as the costs of the deal would outweigh the benefits. It does obviously represent a good deal for TMX in either of Maple Group’s offers. If LSE matched Maple Group’s original offer of $48 per share than the former would end up losing about 8% of its value and make a loss of about the same amount if the stated synergies are not realised. The firm would end up losing about a 10% of its value and make a loss of 10% under the same situation if LSE matched Maple Group’s revised offer of $50 per share. On the brighter side, the divergence between LSE and TMXs proportion of ownership will fall to 51.7% and 48.3% respectively, compared to the previous two deals mentioned earlier, if LSE matched Maple Group’s original offer. If LSE offered $50 per share, the proportion of ownership between the two will be almost equal.

Based on the analysis above, I believe LSE should offer 3.1915 shares for each TMX share, equivalent to $45 per TMX share. This is because this would;

  • represent a good deal for both LSE and TMX in terms of the post deal returns, though LSE would have to sacrifice some proportion of it, they would achieve assuming the synergies are realised
  • mean lower WACC post-merger
  • proportion of ownership of merged firm would be more equal, better illustrating LSEs intentions regarding the merger
  • and still benefiting virtually all stakeholders in terms of the contributing to the growth of the UK and Canadian economies, higher profit margins for the combined firm, better provision of products and services and lower costs for users.

I have provided the relevant excel documents that I have used to analyse the above deal and calculate the best possible estimate of WACC for LSE, TMX and the combined group:

  1. LSE-TMX merger using LSEs actual offer
  2. LSE-TMX merger using hypothetical higher actual offer from LSE
  3. LSE-TMX merger if LSE matched Maple Group’s original offer
  4. LSE-TMX merger if LSE matched Maple Group’s revised offer
  5. Calculation of weighted average cost of capital for each firm involved in the merger

Source:

  1. Management Information Circular TMX Group Inc. with respect to a proposed merger involving LSE Group PLC 25/5/2011 retrieved 19/7/2011
  2. TMX Group Inc. Annual Report 2010 retrieved 19/7/2011
  3. Digital Look (forecast of TMX) retrieved 1-8-2011
  4. Digital Look (forecast of LSE) retrieved 2-8-2011
  5. Google Finance (TMX share price) retrieved 1-8-2011
  6. Google Finance (LSE share price) retrieved 2-8-2011
  7. Bank of Canada retrieved 2-8-2011
  8. Bank of England retrieved 2-8-2011
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What are the effects of entrepreneurial revolution and social media on the M&A industry?

Posted on July 9, 2011 by

Welcome to MartinYau.org.

As this is my first post, I will not analyse a M&A transaction. I will do that in my next post. Instead, I will briefly talk about the effects of the entrepreneurial revolution and social media on the M&A industry  from my own prospective.

You may be asking yourself this – What is the entrepreneurial revolution?

The entrepreneurial revolution is a time where people are setting up their own small businesses therefore becoming suppliers of goods and services to consumers and businesses in the economy. The video below by Daniel Priestley explains this concept.

Why does the entrepreneurial revolution and social media matter to the M&A industry?

The entrepreneurial revolution means that we will see investment bankers will leave their jobs and set up their own boutiques specialising in their own niche. They will provide the same services as the bulge brackets at a fraction of the cost compared to the latter. This means that the boutiques can bring in the same amount of revenue as a bulge bracket while carrying less fat. This also means fatter profit margins for the former. Since these specialists can serve their clients better within their own niche compared to a generalist bulge bracket this means that the latter will be in trouble unless they form partnerships with the former.

Social media is definitely changing the way how investment banks operate. We will see the investment bankers using social media to work together on transactions while still being subject to regulations. Prospectuses will be shared to shareholders and those interested in transactions. News of transactions would be posted after being vetted. Detailed analysis of transactions will be shared publicly. Therefore, the processes in the transactions will be more transparent.

Putting the above two together, bulge brackets and mid caps have slim down to cut costs dramatically so that they can be very profitable. Investment banks will have to be more open [as the regulations allow them to be and without adversely affecting the share price of companies] and more supportive of their clients and other stakeholders [I'm not saying that they not in the first place].

Posted in IB, Investment Banking, Other, Social Media | Tagged , , , , | 4 Comments