Takeover frenzy on the ASX

A takeover frenzy is currently underway on the ASX.

In the Forager Australian Shares Fund, there have been four takeover offers in this financial year alone - ReadyTech (RDY), Nitro (NTO), MSL Solutions (MSL) and iSelect (ISU). If you include the soon-to-complete merger between Tourism Holdings (NZD:THL) and Apollo Tourism and Leisure (ATL) from late last year, that is six in a portfolio of approximately 30 stocks where there has been a takeover deal during the past year.

Private equity likes what it sees

The simplest answer for the large number of takeover offers is that stock prices have been hammered, particularly at the smaller end of the market. Despite being at substantial premiums to recently traded prices, the offer prices for Nitro and iSelect, for example, are still well below where they were trading a year ago.

And private equity is cashed up to bid on these cheap assets. Potentia Capital, the private equity firm bidding for Nitro, raised $635m for a second fund back in July. This is just one example of the significant amount of dry powder ready to be deployed for takeovers in the current environment.

Finally, technology stocks are perfect private equity assets. Take a nice recurring revenue stream, bolt on a few additional businesses, take a knife to the cost base and, in a few years' time, bring it back to market as the next Technology One (TNE). It’s not hard to see private equity selling these businesses back to us for 3-4 times the price.

While it’s no surprise we are seeing plenty of offers, shareholders need to weigh up the pros and cons of selling. Even if they do want to sell, not all offers translate to successful takeovers.

How to assess the likelihood of success

There are three ways takeovers fail.

Most bids start out as “non-binding and indicative”, meaning the bidder can still walk away. This can be due to something they discover as part of the investigative process, a change in the market environment or a view that they can’t afford to pay enough to convince shareholders to sell.

Current shareholders can reject the offer due to a belief that the company is worth more and, finally, other parties, primarily regulators, can intervene when deals are not in the public's best interest.

Those risks are all relevant to our current portfolio. iSelect is an example of one that has had to seek ACCC approval, which it is currently in the process of doing. Tourism Holdings and Apollo also went through a lengthy approval process, coming out of it successfully after divesting some assets. MSL is highly likely to go through, given the attractive price and relative lack of conditions, but current investors still have to vote in favour. And Readytech’s second-largest shareholder, Microequities, has publicly stated that the $4.50 bid was not significant enough to attract its support, making this one far less likely.

You can see those probabilities reflected in the current market prices of the respective securities. MSL trades at a 3% discount to the offer price. Readytech at a much larger 13% discount.

Healthcare sector vulnerable too

Another market sector ripe for takeover action is healthcare. The Covid-related disruptions of the past few years have tested this sector’s reputation for resilience. Revenues suffered due to lockdowns and then the recovery has been hampered by staff and patient illness impacting utilisation and profit margins. As rising interest rates inevitably curb discretionary spending in 2023, however, the economically resilient nature of these businesses should come back to the fore.

KKR’s bid for Ramsay has fallen over but don’t think that means a lack of interest. Recently, Industry SuperFund’s IFM bought a private diagnostic imaging company, PRP, for a bumper price. Another Fund investment of ours, Integral Diagnostics (IDX), is similar but much larger and trades at a multiple some 30% lower than the PRP acquisition price. If the market does not start to recognise the inherent value of these companies, private equity will be on the scene.

Cheap stocks should get bought

It has been an eventful few months for takeovers but not particularly surprising. Our Australian Fund portfolio has been hammered over the past 12 months. Yet our underlying valuations of the businesses have barely changed. If we are right about that (it is, of course, very easy to say), the four recent takeover offers are a perfectly natural consequence of dramatically lower prices. There should be plenty more to come.

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Forager Funds Management Pty Ltd (ABN 78 138 351 345). Australian Financial Services Licence (AFSL) No. 459312. PO Box R1848, Royal Exchange, NSW 1225. Ph: (02) 8277 4812. General advice only Forager Funds Management provides general information to help you understand our investment approach. Any financial advice we provide has not considered your personal circumstances and may not be suitable for you. Product Disclosure Statement: The Trust Company (RE Services) Limited (ABN 45 003 278 831 and AFSL No. 235150) is the Responsible Entity and the issuer of the Forager Australian Shares Fund (ARSN No. 139 641 491). Fundhost Limited (ABN 69 092 517 087 and AFSL No. 233045) is the Responsible Entity and the issuer of the Forager International Shares Fund (ARSN No. 161 843 778). Before deciding whether to acquire or continue to hold the product, you should read the relevant Product Disclosure Statement, any ASX notices, and seek advice from investment and taxation professionals to determine if the product is appropriate for your needs. The PDS for the Funds are available at Forager Funds. The Target Market Determination(TMD) is available for the Forager International Shares Fund from Fundhost’s website. The TMD for Forager Australian Shares Fund will be available from Forager Funds when required by law. Performance: Past performance is not a reliable indicator of future performance. The Trust Company (RE Services), Fundhost and Forager Funds Management do not guarantee investment performance or distributions, and the value of your investment may rise or fall. Total returns and estimated valuations have been calculated using the mid-point of unit prices, before taxation, after ongoing fees, and assuming reinvestment of distributions. We encourage you to think of investing as a long-term pursuit. Disclaimer: To the extent permitted by law, The Trust Company (RE Services), Fundhost and Forager Funds Management, their officers, employees, consultants, advisers and authorised representatives, are not liable for any loss or damage arising as a result of any reliance placed on this document. Information has been obtained from sources believed to be reliable, but we do not represent it as accurate or complete, and it should not be relied upon as such. The Responsible Entity of Forager Australian Shares Fund has determined that it will rely on ASIC CO 13/655 from 20 April 2022. Forward Looking Statements: Sometimes, forward-looking statements are made which reflect the expectations of Forager Funds Management about the future prospects of companies held within the portfolios of the funds. While Forager Funds Management considers its expectations to be based on reasonable grounds, there is no guarantee that those expectations will be met. Actual performance of the portfolio companies will be impacted by a variety of factors, including circumstances that cannot be foreseen, and could differ significantly from the expectations of Forager Funds Management. These statements should therefore not be relied upon as an accurate representation or prediction as to any future matters. Where portfolio companies do not perform in line with Forager Funds Management’s expectations, the funds could be adversely impacted.

Steve Johnson
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Steve began Forager Funds in 2009, and now manages approximately $350m across two funds. Offering a listed Australian Shares Fund (FOR) and an unlisted International Shares Fund, Steve focuses on long-term investing in undervalued companies.

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