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.
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.
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.
- 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).
- Takeover of Ralcorp Holdings Inc. (RAH) by ConAgra Foods Inc. (CAG) $86 cash
- Takeover of Ralcorp Holdings Inc. (RAH) by ConAgra Foods Inc. (CAG) $94 cash
- Takeover of Ralcorp Holdings Inc. (RAH) by ConAgra Foods Inc. (CAG) $100 cash
- Takeover of Ralcorp Holdings Inc. (RAH) by ConAgra Foods Inc. (CAG) $100 cash and fixed shares
- Takeover of Ralcorp Holdings Inc. (RAH) by ConAgra Foods Inc. (CAG) $100 fixed shares
- ConAgra Foods Proposes $4.9 billion Combination with Ralcorp Holdings retrieved 18/8/2011
- ConAgra Foods’ Proposed All-Cash Acquisition of Ralcorp May 4, 2011 retrieved 18/8/2011
- Ralcorp Board of Directors Unanimously Rejects Unsolicited Proposal from ConAgra; Adopts Shareholder Rights Plan retrieved 18/8/2011
- Ralcorp Board of Directors Unanimously Rejects Revised, Unsolicited Proposal From ConAgra retrieved 18/8/2011
- Financials: Ralcorp Hldg Inc (RAH) retrieved 18/8/2011
- US Federal Reserve – Selected Interest Rates (Daily) – H.15 retrieved 13-8-2011
- Google Finance NYSE:CAG retrieved 13-8-2011
- Google Finance NYSE:RAH retrieved 14-8-2011
- Zacks Investment Research CAG: CONAGRA FOODS INC – Stock Earnings Estimates (regarding forecasts) retrieved 14-8-2011
- Digital Look – ConAgra Foods Inc. (regarding dividends) retrieved 14-8-2011
- Zacks Investment Research RAH: RALCORP HLDGS INC NEW – Stock Earnings Estimates retrieved 14-8-2011
- ConAgra Foods Annual Report 2011 p.22, 54 and 56 retrieved 13-8-2011
- 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