5 Major Buyouts That Could Make A Lot of Sense Right Now

Joe Goldman  |

With dozens of significant deals announced over the last few months, the merger and acquisition front is hot right now. However, with large companies looking for new sources of growth and many takeover targets valued attractively, M&A’s could get even hotter.

Keep in mind that while these potential deals could make sense for both sides, the arguments for and against these acquisitions are for pure hypothetical conjecture.

Back in 2011, Diamond Foods was the darling of the food industry. Between January 2010 and September of 2011, shares rose from around $33 to over $90. The company was firing on all cylinders; its Kettle Chips, Emerald Nuts, and Pop Secret brands were undergoing astronomical growth, and Diamond was on the verge of acquiring the Pringles brand from Proctor & Gamble.

Then it all hit the fan. Diamond Foods underwent an enormous accounting scandal in late 2011, prompting the company to release its top executives, redo its financial statements, and lose its Pringles bid to Kellogg. With growth stalled and earnings negative, shares plunged from $90 to $27 in a matter of weeks, reaching a low of $12.85 in 2013.

Because Diamond has a lot of long-term debt, enormous structural issues, and a relatively unknown new management team, a Diamond buyout would come with a lot of baggage. So why would a stable company like Kellogg want to take on so much risk?

Kellogg currently trades at 25 times current earnings and a 2.11 PEG ratio. To justify this rather expensive valuation, Kellogg will need to accelerate sales and earnings growth, and Diamond boasts the products and brands to facilitate this growth. Despite its accounting scandal, Diamond’s brands are still in high favor with consumers. Kellogg’s strong management, product distribution reach, and marketing tools could get these brands growing once again

Kellogg has even hinted at increased acquisition activity in the past. CEO John Bryant told Reuters in 2012 that as a result of the Pringles acquisition, “our ability to do bolt-on acquisitions probably expanded.”

Diamond also recently posted a surprise adjusted quarterly profit (5 cents in the recent quarter). With stabilizing financials and strong brands, Diamond is a great fit for Kellogg and the timing makes sense.

Best of all, Diamond Foods only has a market cap of $431 million, so a buyout would likely only cost Kellogg somewhere in the range of $600 million (40-percent premium) at most.

By now, Apple shareholders are sick and tired of takeover speculation. Investors have long waited for the Cupertino-based giant to put their cash hoard to work in the form of several exciting, strategic buyouts. After all, Apple can buy just about anyone with its $150+ billion cash hoard.

Instead, patient investors have been rewarded with a stock buyback program and a rather stingy dividend hike. Yawn.

However, the reality of the situation is that a large takeover is quietly growing more likely by the day. Apple will release some shiny new gadgets in the next two years, most notably the iWatch, iTV, and iPhone 5s. To sell these devices, Apple will want exclusive rights to some popular technologies and services.

Tim Cook is also feeling mounting pressure from disappointed shareholders to put more cash to use. Although Cook insists that his primary goal is to facilitate innovation, the main purpose of all CEOs is to maximize shareholder wealth, period. Cook is aware of that, and should eventually make at least one of these moves to jumpstart Apple’s earnings growth.

Square: The proliferation of the mobile wallet is long overdue, and Apple would instantly become the industry leader through Square.

The Square card reader allows users to conduct credit card transactions through a smartphone or tablet. Square also recently launched the Square Wallet app, which enables card-less transactions. With a great product, $8 billion in transactions, expanding retail partnerships, and a new business overseas, the company earned a $3.25 billion valuation in 2012.

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By purchasing Square, Apple could destroy and rebuild the credit card business as we know it. A fully functional mobile wallet would incentivize consumers to switch to iPhone and would open an entirely new stream of revenue growth for Apple shareholders.

However, investors should taper their expectations for this one. Rather than acquiring superior technologies, Apple tends to make copies of existing services (see Pandora (P) and iRadio), so Apple will likely attempt to build a fully functional mobile wallet before considering Square as a possible takeover.

Xbox: From a financial standpoint, Xbox is the anti-Apple. Microsoft’s (MSFT) Xbox 360 has slim margins and wasn’t even profitable until its sixth year of production. Meanwhile, Apple has industry-leading margins and huge markups on all of its products.

However, when Apple comes out with its iTV, it will need some major selling points to lure customers away from their traditional televisions. Consumers may not willingly hand over $2,500 for an iTV when they already have a perfectly working, high-definition smart TV. They may think differently if it has a fully functional gaming system built in.

Many believe that the iTV is Apple’s last hope to revive the stock. While Xbox would reduce the iTV’s profitability per unit, it would unquestionably increase total sales and make the iTV the go-to living room gadget. 

The venture is certainly affordable for Apple. While Microsoft hasn’t named a price for its gaming division, Tim Cook could probably muster up enough cash from under one of Apple’s couches in its Cupertino headquarters.

The Royal Bank of Scotland (RBS) currently owns Citizens Financial Group (Citizens Bank), which has over 21,000 employees and 1,300 branches open in the U.S. After huge bailouts in 2008 and 2009, the UK Government compiled an 82 percent stake in RBS. Now that the company is on stable footing and is set to begin an enormous privatization process, a spinoff of its American business would make perfect sense.

Selling off its Citizens Bank would unlock huge value for RBS shareholders. More importantly, RBS in the midst of major restructuring. Simplifying its business structure by focusing on domestic operations could result in more efficient business down the road.
Out of all the major banks, Citigroup seems like the most likely destination for Citizens Bank. Some analysts believe that Citigroup is overexposed to the international financial market and needs to bolster its American operations in comparison. According to one analyst, Citigroup could lose up to $7 billion due to foreign currency depreciation.

If currency exchange rates are truly a problem for Citigroup, it would be prudent to expand its profitable domestic business rather than sell off its foreign assets. Citizens Bank fits the bill.

Israeli newspaper The Calcalist reported last week that Pepsico (PEP) was in talks to purchase SodaStream for $2 billion. Pepsico has since rebuked these rumors, which leaves the door open for Coca Cola to swoop in on a deal.

SodaStream produces home carbonation machines that allow consumers to carbonate and flavor their own soda, saving up to 2,000 cans per year in the process. To flavor its soda water, SodaStream offers tasty, healthier alternative soda syrups that include cola, energy drink, Kool-Aid, Country Time, Crystal Light, and many diet alternatives.

While Coke is already the world’s largest beverage producer, the company shouldn’t be content with its current position in the market. Acquiring SodaStream would give Coke a new source of growth and a “cool” factor. It would also create an outlet for Coke to sell its own syrups under the SodaStream label.

Furthermore, Coke’s enormous customer reach and clientele could facilitate SodaStream’s growth into the restaurant business. SodaStream’s management once mentioned that it intends to produce tap water carbonation machines for restaurants. (Think about it, is there any reason most restaurants don’t offer clean tap sparkling water?) This idea has tremendous potential, and Coke would certainly like to be a part of it.

From a valuation standpoint, one could even make a case that SodaStream trades at a more attractive valuation than Coke. The stock trades at 22 times forward earnings and a reasonable 1.06 PEG ratio. Meanwhile, the slower-growing Coca Cola sells for 17 times forward earnings, but with an iconic brand name it commands a fairly expensive 2.15 PEG ratio.
Buying SodaStream would only cost Coca Cola less than two percent of its market cap and only a fraction of its cash position, so a buyout makes financial and operational sense. Coke’s positioning as a beverage company also makes SodaStream a better destination than the food and drink conglomerate Pepsico.

Yahoo has just about everything when it comes to online services: entertainment news, a search engine, stock quotes, sports, movie times, social media through its Tumblr purchase, and much more.

What Yahoo lacks, however, is journalism credibility. When it comes to news and editorial work, Yahoo is regarded in a tier below its rivals. Buying The New York Times would instantly resolve this.

CEO Marissa Mayer stated earlier in the year, “I think that there’s real opportunity to help guide people’s daily habits in terms of what content they read. All of these daily habits – news, sports, games, finance, search, mail, answers, groups – these are all things we have been underinvested in.”

With Mayer focused on content and developing Yahoo as the web’s most complete, legitimate source of information, The New York Times could serve as a huge piece in Meyer’s grand vision. Plus, New York Times is already profitable and would theoretically only cost Yahoo about $2 billion on a 35 to 30-percent premium.

DISCLOSURE: The views and opinions expressed in this article are those of the authors, and do not necessarily represent the views of equities.com. Readers should not consider statements made by the author as formal recommendations and should consult their financial advisor before making any investment decisions. To read our full disclosure, please go to: http://www.equities.com/disclaimer.

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