One plus one rarely equals three
The boys and girls within merger and acquisition teams, when pitching to their clients, will often discuss synergistic benefits, claiming “one plus one equals three.” Early in November 2018, McMillan Shakespeare (ASX:MMS) bid 0.1414 per MMS plus $0.46 for each Eclipx (ASX:ECX) share.
At the prevailing $16.90 per MMS share, the bid valued ECX at $2.85 per share and a market capitalisation of $910 million.
The rationale for the bid was:
- The combined MMS/ ECX group would be the leading Australian and New Zealand salary packaging and fleet management company with 76,359 novated leases, a fleet of 125,751 vehicles and salary packaging for 347,909 staff;
- There was an estimated $50 million in EBITDA synergies per annum expected to be realised within three years of integration and this compared with EBITDA for the combined group of $250 million; and
- The deal was expected to be earnings per share (EPS) accretive prior to these synergies.
The market reacted negatively, and together with the weaker than anticipated interim result for the six months to December 2018, the MMS share price declined to $11.90 (-30 per cent) by late-February. At that price, the bid now valued ECX at $2.15 per share (-25 per cent).
In the intervening period, ECX came out with its own operating update, which comprised a downgrade to the equipment side of Grays Industrial and Insolvency and the expected normalised net profit after tax for the year to September 2019 had been subsequently cut from $74 million to $66 million (-11 per cent).
In the trading update released today, Eclipse said their financial performance had softened further since their update provided seven weeks earlier.
- Grays Industrial and Insolvency had “continued to underperform”;
- The Right2Drive’s results for the last 2 months have been impacted by factors including:
- Softer trading conditions than anticipated at the time of our January 29 guidance;
- A reassessment of recovery rates on some debtor groups including its non-insurer based (individual) exposures, which has resulted in the need for a higher level of provisioning; and
- The impact of process errors identified following queries arising from due diligence. (Look out KPMG, the Company’s auditor!)
- Reduced end-of-lease earnings and lower new business writings in Fleet, as customers extend lease terms;
- Consumer (excluding Novated) has been impacted by lower than expected new car sales and trade-ins arising from market softness; and
- Increased Fleet receivable provisioning of $0.4 million taken in February under the new AASB 9 standard, although the company is confident that this amount will be recovered.
The upshot is four-fold.
- The factors noted above, particularly in the month of February, has seen the Eclipx normalised net profit after tax for the five months to February 2019 decline by 42.4 per cent compared with the five months to February 2018;
- The carrying value of the company’s $830 million of intangibles will likely come under pressure when the Directors sign off the results for the six months to March 2019;
- MMS have effectively walked away from the takeover bid; and
- The ECX share price, at the time of writing, was down from $1.88 to $0.88 (-53 per cent).
Management initiatives will now be to eat into some of the espoused “synergistic benefits” presumably through an aggressive cost cutting program.