History is written by the victors. Sulzer, the Swiss pumpmaker, on Thursday announced it is in talks to acquire turbine-maker Dresser-Rand of the US. Both can trace their origins to the first half of the 19th century. Only one will retain its story if the deal goes through. The main customers for the two companies come from the same industries: oil & gas, power and water. And the business models mesh. Both companies derive roughly half of their revenues from the after-market – parts and services sold to maintain the product. So the combination makes industrial sense. Financial logic is another matter.
Sulzer has the finances to expand. After several years of generating an average of SFr200m of free cash flow each year, the net cash position is SFr740m. The Sulzer board has indicated in the past that, failing any acquisitions, the company would use its free cash flow to buy back shares. If the board spent all that net cash on a share buyback, earnings per share would rise by a fifth – which should have a roughly similar impact on the market capitalisation.
Or Sulzer could buy some growth, via Dresser-Rand. This would cost SFr6.2bn, plus any added premium. Credit Suisse believes that even a best-case scenario of a half-shares, half-cash acquisition would result in annual cost savings of around SFr100m. The present value of the deal, Credit Suisse reckons, is SFr540m. That represents just over a tenth of Sulzer’s market value, well shy of the aforementioned improvement from a simple buyback.
Returning money to shareholders does not make a company more valuable, and suggests that management has run out of ideas for growth. In this case, however, the earnings per share lift from a buyback provides a rough benchmark for the value created by a merger.
Moreover, Dresser-Rand looks expensive. Siemens has already shown some interest in it, helping to explain the performance of the shares, up more than a fifth this year. It trades on a decade high of 23 times next year’s earnings, a premium of more than a quarter against its US peers. So no matter how strategically sensible this deal looks, Sulzer should think hard before committing to it. Another suitor, such as Siemens, could steal its target away. But the greater risk is that history remembers Sulzer’s management for making a very expensive acquisition.
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