30 August 2010 00:00 [Source: ICB]
Now is the time to look for smart acquisitions and also to refinance at low rates to push out debt maturities. But avoid the pitfall of overestimating synergies and overpaying for assets
While refinancing debt at low rates is a no-brainer, there are plenty of pitfalls in the mergers and acquisitions (M&A) game. Already we are seeing M&A activity heating up, evidenced not only by more completed transactions and a higher deal backlog, but also by the emergence of hostile takeover bids.
Australia-based mining giant BHP Billiton's unsolicited offer to acquire Canadian fertilizer major PotashCorp for $130/share, or around $39.6bn (€31.3bn), was rejected by the target on August 23. US industrial gases producer Airgas has already rejected a revised offer by compatriot rival Air Products to take it over at $63.50/share, or about $5.4bn.
In the chemical arena, there are an increasing number of assets on the selling block, but typically, the ones of the highest quality are not readily available. It may well take a hostile bid to walk away with a prized asset.
The attempted takeover examples above in the fertilizer and industrial gases sectors are linked by one important quality - the assets are unique and rare.
PotashCorp is the global leader in the production of potash - an essential mineral in enhancing crop production. The company, in its rejection letter to BHP, characterizes the potash industry as having substantial barriers to entry, few producers and no product substitutes.
And how many industrial gases companies are out there of any size? In the US, you're down to Air Products, Airgas and Praxair. Outside the US, there are France's Air Liquide, Germany's Linde and Japan's Taiyo Nippon Sanso.
In Airgas's latest salvo against its pursuer on August 23, it complained that Air Products had thus far failed to offer an appropriate price - "one that compensates our stockholders for Airgas's scarcity and synergy value."
PotashCorp and Airgas are no doubt rare and quality assets. And scarcity always commands a premium. But while companies with strong balance sheets should look for synergistic deals, it's important not to get carried away on price.
Alembic Global Advisors analyst Hassan Ahmed concludes that the chemical industry has a track record of value-destroying M&A activity. Chemical company buyers have on average seen their stock prices drop by 3.8% over one year and 19.4% over three years.
The key mistake buyers have made was to overestimate synergies and thus overpay for acquisitions.
"Overestimating synergies leads to unattainable expectations - and stock underperformance typically results when promised synergies fail to materialize," said Hassan in a research note.
On the financing front, companies should be lining up to refinance debt - that's a no brainer. One big lesson of the financial crisis of 2008-2009 was that you should not wait until the last minute to refinance your debt.
US specialty chemical firm Chemtura and Canada's NOVA Chemicals were caught with debt coming due in a collapsing financial market. They had two choices as the clock ticked away - declare bankruptcy or sell out. Chemtura chose the former and NOVA the latter.
Today there is no excuse for a company not to push out its debt maturities. Interest rates are at record lows, and financing is available - even to those companies without the most stellar credit ratings.
US specialty chemical firm Ferro in August sold $250m in senior notes due 2018 with a coupon of 7.875% - not the cheapest debt, but not bad for a company with a speculative "B" credit rating from ratings agency Standard & Poor's.
Now that's security you can take to the bank.
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