Bid Offers Arbitrage and Long-Term Growth Opportunities
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Technology consulting giant Accenture (NYSE: ACN) has announced its intention to acquire Hong Kong-based marketing and consulting outfit Acquity (NYSEMKT: AQ). Although Acquity is based in Southeast Asia, the bulk of its clients operate out of North America. As such, this acquisition looks poised to give Accenture a major foothold on the continent and set it up to compete against larger rival IBM (NYSE: IBM).
At the same time, it is crucial not to overstate the strategic importance of this deal. With a value of just over $300 million, this is not a blockbuster merger. On balance, this is probably a good thing: Although this transaction has plenty of associated risks, its rather small size limits its explosive downside potential. Moreover, there are some clear upsides here. Investors who wish to gain exposure to this space would do well to take a closer look at the deal's contours.
Accenture, Acquity and the Competition at a Glance
Accenture is often cited as the world's second-largest technology consulting firm. Although this is an impressive-sounding label, it does not accurately capture Accenture's relationship with the world's largest technology consulting firm: IBM. The New York-based computing giant is more diversified than Accenture, but it does maintain a strong presence in the technology consulting space and provides IT services to an array of big-name clients. Meanwhile, Acquity is considerably smaller and more narrowly focused.
This divergence is best illustrated by these three companies' market capitalization figures. Acquity's valuation of about $300 million is not even in the same ballpark as Accenture's $52 million market cap or IBM's gargantuan $225 billion figure. Moreover, Acquity is profitable by the narrowest of margins. In 2012, it earned $220,000 on gross revenues of about $140 million. By comparison, Accenture turned a $3.1 billion profit on $28.2 billion in revenues. IBM reported income of over $16 billion on revenues of around $103 billion. As such, it should not be surprising that Acquity is cheaper than Accenture and IBM. Whereas Acquity had a price-to-book ratio of about 3.2, its larger peers had respective ratios of 9.5 and 11.8.
Acquity and Accenture are fortunate to lack significant debt loads. In fact, Acquity has cash reserves of $31.4 million and no long-term debt. Accenture has over $5.5 billion in cash and only $29,000 in debt. Needless to say, the company will probably not need to finance its purchase of Acquity with a new debt issue. For comparison, IBM has a little over $33 billion in debt and about $12 billion in cash reserves.
How the Deal Is Structured
Under the terms of the deal, Accenture will issue cash payments of $13 per share to all Acquity shareholders of record as of an undetermined record date. Market-watchers agree that this is a very generous offer: It represents a premium of more than 100 percent over Acquity's $6-per-share pre-announcement price and values the company at more than twice its 2012 revenues. In fact, there is still an arbitrage gain to be had: Relative to Acquity's current share price of about $12.80, Accenture's offer provides a 1.6 percent premium.
Potential Complications and Other Issues
Despite the seemingly unassailable premium that Accenture has offered for Acquity, this deal comes with a number of potential complications. In particular, several legal investigations have arisen since the merger's announcement. Due to past fluctuations in Acquity's stock price, many current shareholders believe that Accenture's offer actually undervalues the smaller company. Past statements from respected analysts seem to bear out this notion. However, the terms of the transaction are undeniably favorable to any Acquity shareholders who bought into the company within the past few months. As such, it is difficult to imagine a situation in which this deal did not go through as planned. A closing date has yet to be set.
Acquity's key service is a proprietary system that measures the performance of Internet marketing plans within large organizations. The company works with marketing divisions and chief marketing officers at a number of major American companies, and the sector in which it operates is growing at a tremendous rate. Since Accenture maintains a similar Internet marketing management division, this deal's inherent synergies are obvious: Accenture would subsume Acquity into this segment of its business and take steps to streamline its operations. Although a precise figure has yet to be provided, it seems clear that this merger will save many millions of dollars in redundant expenses over the long term.
Long-Term Outlook and Ways to Play
In light of its small but significant arbitrage premium and obvious synergistic potential, this deal presents an obvious profit opportunity for long-term investors and short-term traders alike. Investors who wish to pocket the immediate premium and gain exposure to the merged company should opt for a long position in Acquity. Although Acquity's post-announcement trading range has been relatively tight, news-related dips could provide key buying opportunities. Investors who wish to forgo the premium might simply wish to open a long position in Accenture. In this market, either strategy looks profitable.
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Mike Thiessen has no position in any stocks mentioned. The Motley Fool recommends Accenture. The Motley Fool owns shares of International Business Machines.. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!