Foster’s – the amber nectar? [updated] | FT Alphaville

Foster’s – the amber nectar? [updated]

The price action in SABMiller on Tuesday morning after its $10bn offer for Foster’s was knocked backed:

If anything, it’s surprising SAB shares haven’t fallen further because it’s difficult to see the logic of the bid for Foster’s, unless of course it’s trying to make itself takeover-proof. Several analysts reckon AB Inbev should buy SAB and bring an end to the consolidation of the brewing industry.

Anyway that’s another story.

For SAB to justify its proposed valuation metric of an EV:EBITDA multiple of 12.4 (based on June 2011 figures) for the Australian brewer, it would need to extract significant synergies. A feat that could be difficult given that Foster’s is on the other side of the world from most of SAB’s operations, as Deutsche Bank notes:

To achieve a return equal to cost of capital (8.5% assumed) in years 5-6, the group would have generate pre-tax synergies of A $250m, a significant number in the context of FY11 EBIT of A$840m.

That, of course, assumes SAB doesn’t raise it’s offer. If it does (and it will have to if it wants to take control of Foster’s) the maths look even more unappealing, according to Citigroup:

At $4.90, we estimate an acquisition would be about 7% EPS accretive in year 3, but crucially its ROIC (est. at 7.2%) would be below the project WACC (est. at 8-8.5%). At $5.40, it would be about 6% EPS accretive, with a ROIC of 6.6%. These estimates assume synergies of 6% of FGL’s sales, which seems generous to us. Even at $5.40, SAB could easily fund the deal from new debt, as its EV/EBITDA would reach only 2.9x we estimate. Following a bid, SAB’s profit exposure to developed markets would rise from 18% currently to around 30%, arguably making it a more balanced company.

Indeed, it’s difficult to see what SAB could do to improve profitability at Foster’s.

Here’s Citi again:

We don’t think SAB could improve FGL’s profitability significantly. Margins are already high and costs aren’t out of line with equivalent operations elsewhere. Furthermore, FGL’s brands are well differentiated, with appropriate price points. Lack of geographical overlap/proximity suggests synergies would be limited (although there might be some procurement gains). The factors that drove the success of SAB’s Colombian acquisition wouldn’t apply in Australia; in fact its track record on acquisitions in developed markets is weak.

As for the strategic merits, Deutsche is struggling to come up with an answer beyond decreasing SAB’s exposure to fast-growing emerging markets:

Our initial calculations suggest that a debt-funded deal might enhance earnings by around 5%, and push net debt / EBITDA to around 2.5-3.0x. However, SAB’s future strategic flexibility would be constrained for a while, and although Foster’s would diversify the group’s base it would also reduce exposure to emerging markets from a bit over 80% of earnings to nearer 70%, which might reduce the premium that SAB’s core investors have historically been prepared to pay for the stock. Moreover, the rejection of this proposal by the Foster’s board will clearly raise concerns that if a transaction materialises it is unlikely to be at levels which leave a lot of value on the table for the acquirer.

On top of all that there’s the Aussie dollar to consider, which is currently trading at $1.0573 and arguably massively overvalued.

All in all, about as appealing as warm pint of Foster’s.

Update: 12.35pm.
That said, Collins Stewart thinks the deal has some merits.

The rationale is straightforward. Foster’s has a stable top line, operates in a duopolistic and highly profitable market, and is very cash generative. Cash generation is one of SAB’s relative weaknesses and improving the cash conversion of the group is critical to achieving full and fair value from any subsequent acquisition of SABMiller itself. In particular, Foster’s offers substantial scope for the development of the local premium segment, which SAB would consider to be its core skill.

Our thesis on SABMiller has been that Foster’s at the right price is a good deal (and this is broadly at a reasonable price). There is a risk to SABMiller that ABI would prefer SABMiller without Foster’s, hence bidding for Foster’s risks drawing them out. At the very least, SAB shareholders should benefit from downside protection in that any negative response in the shares inevitably makes it more attractive to ABI. We accept that some will see this as a dilution of an “emerging market” story, but we would buy on this news

Update: 17.54.
We were wrong. SAB doesn’t need to buy Foster’s to make itself bid proof. The poison pill they have in place with Molson Coors in the US is enough to put anyone off buying them, even AB Inbev.

Related link:
Foster’s rejects A$9.5bn SABMiller bid – FT