Brian Gaynor: The ABCs of valuing takeover targets

Several takeover offers were in the news this week, particularly the bids for Capital Properties, Carter Holt Harvey and Restaurant Brands.

On Tuesday, the day after Capital Properties released the Deloitte $1.48 to $1.73 a share valuation, Stephen Costley of bidder AMP went on the offensive.

He claimed that the $1.48 to $1.73 valuation was not credible, basing his argument almost totally on an investment report by Citigroup. Costley did not release the broker's report.

According to Costley, Citigroup was surprised there was no dividend yield analysis in the Deloitte report and argued that the $1.48 to $1.73 valuation was too high based on a yield analysis.

But since when did we start valuing companies, even property groups, on a dividend yield basis only?

There was no dividend yield analysis in the independent reports for the Shortland Properties and St Lukes takeovers.

There was a yield analysis in the PricewaterhouseCoopers assessment of the Kiwi Development Trust bid, but it came up with a much lower valuation than either the "going concern NTA value" or "net realisable value" methodologies.

PricewaterhouseCoopers rejected the dividend yield analysis, which produced a value of $1.72 to $2.31 a unit, in favour of the other two and concluded that Kiwi Development Trust's fair value was between $2.40 and $2.70 a unit.

If our independent reports were based on dividend yields, then we would never sell companies to offshore bidders because our yields are high on an international comparison basis.

If AMP is really hooked on dividend yields, why doesn't it make a bid for Restaurant Brands - AMP is its largest shareholder - because the fast-food group has a gross dividend yield of 12 per cent at $1.25?

On Wednesday, Costley unleashed another attack on the Deloitte valuation, this time based on an undisclosed report by UBS Investment Research.

According to Costley, UBS's Capital Properties valuation is $1.36 a share, including a premium for control. Costley doesn't disclose how UBS obtained this figure - he is prolific on selective quotes but not on disclosure - and concludes:

"The UBS report supports our view that the offer provides investors with a great opportunity to sell at a price that would not be achieved other than as a result of the offer."

It could be argued that AMP has to purchase Capital Properties at the lowest possible price because that is the best way for it to create value for investors.

AMP NZ Office Trust, which is the group's flagship listed property vehicle, was listed on the NZX in December 1997 after the issue of 250 million units at $1 each.

The trust purchased seven commercial buildings, three in Auckland for $312.2 million and four in Wellington for $141.7 million. As at June 30 last, these seven buildings, which cost $453.9 million and are still owned by the trust, were valued at only $444.4 million.

This represents a loss of $9.5 million, or 2.1 per cent, over the seven-and-a-half year period.

By contrast, when Capital Properties was listed on the NZX in November 1998 it had nine commercial buildings, all in Wellington, with a September 1998 valuation of $181.8 million. These nine buildings, which are still owned by Capital Properties, are now valued at $262.6 million.

This represents a gain of $80.8 million, or 44.4 per cent, over the seven-year period. There is little doubt, based on these figures, that Capital Properties is far superior at creating value for investors from commercial property than AMP.

The high-profile stance of Costley, using broker support, highlights the short-term versus long-term approach to investing.

Most broker analysts have a 12 to one-month target price, which is essentially a short-term view of investment value.

The importance of taking a long-term view was reiterated at last week's annual meeting of Australian Foundation Investment Co, Australia's oldest and largest listed investment company.

Sound an alarm


Chairman Bruce Teele told shareholders: "It is appropriate to sound an alarm at the growth in short-termism in many areas of the market, particularly takeovers.

"There is firstly the destabilising impact of hedge funds with their high leverage to short-term gains.

"Secondly, and perhaps even more distressing, is the tendency for the so-called experts to offer valuations based on as little as two or three years' projected earnings.

"Value-based shareholders such as Australian Foundation Investment are being cheated of their holdings and the benefits passed on to the predator. Much to our regret, we have lost many companies from our list in this manner.

"Perhaps directors of companies under takeover should be a little more red-blooded in their defence and their desire to gain a better and fairer price for all shareholders. Also more focus on long-term business values should be undertaken."

Teele's sentiment also applies to New Zealand.

Several other developments took place on the takeover front this week.

Restaurant Brands said CVC Asia Pacific was not proceeding with its intended offer because of its inability to reach agreement on a number of commercial terms with Yum Restaurants International, the franchisor of the KFC and Pizza Hut brands.

Chairman Bill Falconer and his board allowed CVC to do due diligence, but would not release the Grant Samuel independent report, nor give specific details of the disagreement between CVC and Yum. The latter could have an important impact on the fast-food company's value.

Hopefully, the AMP, with its new policy of going public on important investment issues, will take Falconer and his board to task for the poor performance of the company since listing.

Graeme Hart extended his offer for Carter Holt Harvey to November 3, having acquired 68.6 per cent of the target company by Thursday, the original closing date.

Hart wants to reach 90 per cent and move to compulsory acquisition. He sees an opportunity to reach this goal because of the overall sharemarket weakness and a poor third-quarter result expected from CHH on October 26.

The offer for BIL International, which still has more than 50,000 New Zealand shareholders, closes next Friday. Quek Leng Chan has reached 46.4 per cent after raising his price from S$1.20 to S$1.25 ($1.07) a share.

The Deloitte independent report does not contain a valuation, but recommends rejection of the offer unless shareholders have a negative short-term view of the share price or for large shareholders that have difficulty selling shares on the market.

BIL's independent directors have endorsed Deloitte's recommendation and, under Singapore takeover rules, Quek Leng Chan can keep all the acceptances even if he doesn't achieve his 50 per cent shareholding target.

Finally, the impasse over the controversial Oyster Bay Marlborough Vineyards remains, although the High Court upheld an important decision by the Takeovers Panel in relation to the offer.

But the following important question remains unanswered: how could Bill Falconer and Jim Delegat base the initial purchase price of vineyards bought by Oyster Bay from Delegat's on market value, yet now insist that Oyster Bay's properties should be valued on an income rather than a market-value basis?

The change in valuation methodology is material, as Oyster Bays vineyard's are worth $45 million on an income basis and $90 million based on market value. The difference represents $2.50 an Oyster Bay share.

Disclosure of interest; Brian Gaynor is an executive director of Milford Asset Management, whose clients hold Capital Properties shares. He also owns BIL International and Carter Holt Harvey shares in his own name.