Are Any Rumored Buyouts Worth Betting On?
RJ is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
Buyouts and private-equity acquisitions can provide powerful stock moves and often act as the catalyst to drive stock prices to intrinsic value. In the portfolio of our Best Ideas Newsletter, we had held shares of Collective Brands. We liked the company’s valuation, relatively small size, and its attractiveness to other companies (among other things). And while we’d never own a stock solely on speculation of M&A activity, a buyout turned out to be the catalyst for our call on Collective Brands to work out for members. Shares proceeded to appreciate over 35% on our cost basis!
In recent months, we’ve heard rumors of cash-heavy companies and private equity funds interested in several different deals. Let’s take a look at a few higher-profile names.
Vulcan Materials (NYSE: VMC) previously rejected a $5.1 billion hostile takeover bid from its smaller rival Martin Marietta Materials (NYSE: MLM). However, Martin Marietta seems intent on reviving its interest, though this time the company will likely explore a friendly bid. With global construction slumping, we figure Martin Marietta thinks Vulcan’s current price is low, though we believe both companies are trading above our estimate of their respective fair value ranges.
Any combination of the two companies would require considerable leverage since neither is in fantastic financial position. Still, Vulcan appears to be uninterested in any takeover offer, especially as demand for residential construction continues to recover in the United States. Given the lack of liquidity at Martin, as well as the current valuation of Vulcan, we don’t find the situation very intriguing at current levels. We’re just not compelled to own either one at this time.
Sources indicate that Singapore Airlines is in talks to sell its 49% stake in Virgin Atlantic. Given its previous interest, Delta Airlines (NYSE: DAL) expects to be a likely suitor. Although Virgin is privately held, with billionaire Richard Branson’s Virgin Group owning 51%, the deal seems to make sense for both parties, as it gives Virgin better access on US routes and Delta access to London’s Heathrow airport. European airlines have struggled with weak demand and rising fuel costs, but it looks like consolidation could improve overall industry profitability. Heathrow access could certainly boost profits at Delta. Still, we wouldn’t add shares of the airline to the portfolio of our Best Ideas Newsletter at this time. In fact, it’s very likely that we will never delve into airline shares based on the poor structural characteristics of the industry.
We thought the momentum in Deckers’ (NASDAQ: DECK) core Uggs brand hadn’t fallen off as quickly as it did, but based on recent sales data and increased discounting, the brand has lost some of its luster. One of the hardest parts about investing in a firm such as Deckers is determining if its core product is a fad or a new part of the consumer landscape. In the late 1980’s, plenty thought the entire “sneakers” trend would eventually decline. Instead, Nike has become one of the most consistent and dominant brands in the world. Not to be confusing: we certainly don’t think the company is the next Nike by any means, mainly because we don’t think the majority of men are that interested in Uggs. However, we are fans of the long-term staying power of the core sheepskin boot.
Is the company attractive to potential acquirers? On a valuation basis, we aren’t crazy about shares, which trade within our fair value range. However, the firm’s market capitalization sits below $2 billion and the company carries little debt, so the actual price wouldn’t be that intimidating to a motivated buyer. Likely acquirers include the “usual suspects” such as Wolverine Worldwide and VF Corp, with the latter recently boosting its boots business with its acquisition of Timberland. Still, we aren’t interested in shares at this time, as we find little interest in owning the company based merely on takeout speculation (particular when its shares are fairly valued).
There might not be a more rumored buyout target than Best Buy (NYSE: BBY) because founder and former CEO Richard Schulze has indicated his desire to take the company private. Unlike many other deals, we think this deal has a key intangible that could help it get done—emotion. Schulze naturally does not want to see his life’s work flounder and bleed a slow death, in our view, increasing the likelihood that a deal gets done.
Considering he’s had obvious interest for several months, what’s the hold-up? Some sources have speculated that Schulze has had a difficult time finding private-equity investors interested in the big-box retailer, while others have speculated that any private equity partners would want Schulze to have a reduced role.
In reality, we believe potential buyers are simply waiting for the company to get cheaper. Although shares are already trading at bargain-basement levels on a valuation basis, the Valuentum Buying Index (our stock-selection methodology) indicates that shares may continue to fall. And with the company’s share price continuing its slide, it’s clear, in our view, that not many market participants believe the transaction will materialize.
On the other hand, we like the chances of a buyout, but we do not think buyers will pay much of a premium (the lower end of our fair value range may be most likely). The long-term risks inherent to Best Buy’s business model may simply be too great for a prospective buyer. In this case, we find a position in Best Buy a bit too speculative for the portfolio of our Best Ideas Newsletter.
After finally cutting its dividend in July, shares of grocer SuperValu (NYSE: SVU) have bounced between $2-$3 per share, and long-term prospects remain grim. However, private equity firm Cerberus appears to want the company, or at least some of its assets. Shares are not at all expensive, trading at a hefty discount to our fair value estimate, but the company’s long-term solvency remains in question. Cash sits below $150 million versus a hefty debt load in excess of $6 billion (this relationship was the primary driver behind its poor Valuentum Dividend Cushion score, which predicted the cut). Same-store sales also continue to fall.
Cerberus will have to line up huge amounts of potential funding for what we view as a relatively risky deal. Further, we simply don’t see the great strategic benefits of acquiring a declining business that needs significant capital investment. If SuperValu’s balance sheet were unlevered, we think a private equity deal would have occurred several months ago. Still, it seems Cerberus is very interested, so the potential of a transaction happening remains relatively strong. As with Best Buy, however, the deal is simply too speculative for our tastes.
Australian firm GrainCorp rejected an offer of $2.8 billion from Archer Daniels Midland. However, this morning, ADM bumped its offer. GrainCorp decided to focus on internal improvements rather than selling itself. ADM continues to be pressured, as the firm has struggled to grow profits throughout the draught. Ultimately, we doubt GrainCorp’s board will be able to reject the offer given the premium it represents to recent market pricing. Other rivals have reportedly been interested in the company, and it’s possible a bidding war might ensue. But in such a war, the idea of the winner’s curse often holds true (the winning bidder will likely overpay for the assets). We're not jumping head first into this one either.
Valuentum has no positions in the stocks mentioned above. The Motley Fool owns shares of Best Buy and Supervalu. Motley Fool newsletter services recommend Best Buy and Supervalu. 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!