With M&A Popping, More Deals Lie Ahead
RJ is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
Monday morning, Barnes & Noble’s Chairman Leonard Riggio announced that he will finance a bid to take the company’s retail operations private. This comes after the announcement of several other major deals, including the OfficeMax/Office Depot Merger, Berkshire and 3G Capital’s acquisition of Heinz, and Michael Dell’s bid for Dell. Let’s take a look at some potential targets.
Results in the for-profit education space have experienced significant downward pressure during the past few years. Apollo Group (NASDAQ: APOL), owner of the University of Phoenix, has seen its share price cut by 64% during the past year, after being a cash-generating darling just a few years ago. The firm’s most recent quarter showed total enrollment dropping 14%, with new enrollment dropping at a slightly faster pace.
However, the firm still enrolled 54,000 new students during its first quarter, and it believes it will generate $3.65 billion-$3.75 billion in revenue and $500 million-$550 million in operating income for fiscal 2013. More importantly, the firm’s balance sheet remains fairly unlevered, with just $75 million in debt versus an unrestricted cash balance of $776 million. The company has repurchased nearly 40% of its outstanding shares since 2005, and we anticipate the share count will fall below 100 million during fiscal year 2013.
Although there is no major insider like Richard Schulze or Michael Dell, we at Valuentum believe private equity firms may already be sniffing around given the company’s continued ability to generate large amounts of free cash flow (and its unleveraged balance sheet). We also think the company looks relatively inexpensive, but the market will likely keep shares depressed (making it an attractive takeover).
Given regulatory concerns and a declining business, we wouldn’t expect a huge premium. However, if shares fall further below the low end of our fair value estimate range ($19-$39 per share), a deal becomes even more likely, in our view.
As we see a secular shift in computing consumption from traditional PCs to smaller, mobile devices, we’re also seeing a shift in storage away from volatile-state hard drives (DRAM) to solid-state drives (SSDs). Even some of the traditional DRAM business is getting replaced by SSD due to its greater efficiency and lower power costs.
Nevertheless, both of the industry’s heavyweights, Seagate Technologies (NASDAQ: STX) and Western Digital (NASDAQ: WDC) trade at fairly reasonable forward earnings multiples, and both firms generate strong free cash flow (though capital allocation decisions differ between the two). Seagate prefers returning much of its excess free cash flow via repurchases and dividends, while Western Digital has maintained a higher cash balance and lower levels of leverage.
Seagate has been taken private in the past, but due to its less-leveraged balance sheet, Western Digital looks as though it’s a more likely candidate to be taken private, in our view. Samsung has an enormous stake in Seagate that could make it command a higher bid, while Western Digital does not have the same constraint.
Yet, we could see the two rivals consolidate as the outlook for the DRAM market continues to deteriorate and antitrust concerns dissipate. A deal would lead to tremendous cost savings and superior pricing power, resulting in a more profitable and valuable enterprise. Still, we’d wait to see if more downward pressure on shares of either company surfaces before becoming interested in the risk/reward without a buyout offer.
In our last M&A roundup, we identified Deckers (NASDAQ: DECK) as a firm that could find a bid. The company reports its winter-quarter earnings this week, which could substantially change the fundamental outlook as we’ll be better able to see if the company’s 2011 weakness was product or weather related. If results are substantially better than expected, we imagine the chances of a bid would fall considerably. However, if results are just in line and not a complete disaster, we believe a bidder could emerge.
Everyone’s favorite retail acquirer, VF Corp, doesn’t necessarily look like a buyer, in our view. VF Corp runs its segments sort of like Berkshire does, allowing managers to work autonomously, while the firm uses its enormous buying power to lower cost of goods sold and its scale to lower production costs. Given Deckers’ major input is sheepskin, we’re not sure how much of an advantage Uggs can gain under the VF Corp umbrella. We think a private-equity buyer looks more likely at this time.
Best Buy (NYSE: BBY) has been a likely takeover candidate for some time, but we think odds of a deal getting done are reduced every time the stock rises—shares are up 40% year-to-date. Given the large amount of time that has passed since founder Richard Schulze announced he would bid and the fact that we haven’t yet seen a bid, we think financiers are unlikely to throw capital at this deal.
We at Valuentum can’t necessarily blame them, as Best Buy has seen its margins, free cash flow, and long-term business outlook decline considerably during the past few years. Still, this is one deal that we wouldn’t be surprised to see happen. We’ll be keeping a close eye on Best Buy.
Valuentum has no position in any stocks mentioned. The Motley Fool owns shares of Western Digital. 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!