By Colin Kruger
An $8.8 billion merger between the privately owned Chemist Warehouse and ASX-listed Sigma Healthcare has the financial markets abuzz, but not everyone is sure this transformative deal will get past the Australian Competition and Consumer Commission (ACCC).
The reaction to two recent Sigma announcements says it all.
Sigma Healthcare boss Vikesh Ramsunder and Chemist Warehouse CEO and co-founder Mario Verrocchi.Credit: Eamon Gallagher
Sigma Healthcare boss Vikesh Ramsunder fronted investors last month to unveil the pharmaceutical distribution group’s half-year results and offer a solid plan B if its proposed merger with Chemist Warehouse is blocked by the competition regulator.
“Look at our business today. We’ve given a forecast to the market of EBIT (earnings before interest and tax) between $50 million to $60 million – that’s probably one of the highest we’ve done in three years. And this is on a standalone basis without the merger,” he said.
However, the market’s tepid reaction to Sigma’s results indicated no one was interested in plan B.
Instead, all eyes were on Chemist Warehouse’s strong sales growth and $581 million of EBIT that will transform Sigma as a listed entity if the deal is approved next month.
Chemist Warehouse investors will own 86 per cent of the merged group. It will own Sigma’s pharmaceutical distribution business, its chemist franchises such as Amcal, as well as the lucrative front-of-store business which supplies beauty, vitamins and household goods.
It will also own the Chemist Warehouse franchise, which already dominates Australia’s landscape.
“We continue to believe Chemist Warehouse is a fantastic retail proposition, offering a unique mix of defensive growth,” Macquarie Research said of the Chemist warehouse financial update that was released alongside Sigma’s result.
It’s not just the financial might that has got investors excited. Chemist Warehouse chief commercial officer and its first-ever franchisee Damien Gance has never been shy about the retailer’s credentials as an Australian icon.
“We have found our way into the Australian psyche,” Gance told The Australian Financial Review when the deal was announced last December.
Chemist Warehouse says its stores inspired an episode of Aussie TV sensation Bluey, which itself has gone global with an appearance in the 2022 annual Macy’s Thanksgiving Day Parade in New York.Credit: Bluey Official Website/BBC
“We are part of the post-2000 Australian zeitgeist. We have our own Bluey episode. We have our own Bluey episode because visiting a Chemist Warehouse is simply part of what Australian families do.”
That might account for the huge reaction last week when Sigma and the ACCC announced the concessions it was offering to allay some of the watchdog’s concerns about how Sigma’s franchise chemists such as Amcal will compete against Chemist Warehouse’s own franchises.
Sigma shares soaredat the prospect of ACCC approval, even though the decision has been delayed to November 7.
These concessions include allowing most of Sigma’s 300-plus franchise chemists to cut their relationship without triggering termination fees. The agreement also places restrictions on the Chemist Warehouse side of the business gaining access to confidential data about the Sigma side of the business and its franchisee operators.
The ACCC said it was delaying its decision on the deal to allow feedback on these proposed undertakings. “While the ACCC is publicly consulting on this undertaking, this should not be interpreted to mean that this, or any other form of undertaking, will ultimately be accepted by the ACCC,” the watchdog’s chair, Gina Cass-Gottlieb, said.
The big question is whether the ACCC come to grips with the other vexing issue it has closely studied – market dominance.
Reports suggest the watchdog has closely looked at how many franchise store operations a combined Chemist Warehouse/Sigma would control in any given area and knows which stores might need to be divested.
Gina Cass-Gottlieb, the ACCC chair, will announce the fate of the proposed merger next month.Credit: Nick Moir
Sigma certainly is not giving any further hints, saying it continues to work co-operatively with the ACCC.
Sigma’s boss, Ramsunder, was much more forthcoming after the group’s financial results last month, assuring Sigma franchisees about the future of their business with the group post-merger.
“The one important thing is that we don’t differentiate between a Chemist Warehouse customer and a non Chemist Warehouse customer when providing the supply of products,” he said.
“When a customer places the order, it doesn’t matter who it is, that customer is supplied from Sigma. There’s no service differentiation.”
But more franchisee turnover is expected.
“Customers that probably didn’t want to be part of a merged entity have left. Customers that want to be part of it have joined. And I think the next [inflection point] is the announcement by the ACCC of the merger decision,” Ramsunder said.
The decision won’t just be significant for Sigma’s franchisees, analysts warn.
Sigma shares hit fresh 18-year highs this week, poking above the $2 mark and pushing its market valuation above $3 billion.
Analysts say the price is too high even if the deal goes through. If it doesn’t, the impact would be disastrous for anyone who has acquired shares at these levels.
Macquarie values Sigma at just 74¢ a share on a standalone basis, and 90¢ if combined with Chemist Warehouse.
Morningstar’s Shane Ponraj says a standalone Sigma is worth just 78¢ a share.
He thinks it’s unlikely the deal will be approved as the proposed remedies fail to address the ACCC’s significant competition concerns over a merger that would create Australia’s largest pharmacy chain with 50 per cent of the retail pharmacy market by revenue – excluding supermarkets – across 1000 stores.
“We think these concerns are material. Through sheer scale and vertical integration, the merger would lend negotiating power and economies of scale that threaten independent pharmacies,” Ponraj said.
And pharmacies would not be the only casualty if the merger reduces competition.
“Ultimately, this may lead to reduced service quality and higher prices for consumers,” Ponraj said.
But the deal has its fans too.
“We assume Sigma’s proposed merger with Chemist Warehouse Group [CWG] proceeds, giving investors the opportunity to invest in a ‘category killer’ format in arguably Australia’s most attractive retail category,” Barrenjoey analyst Tom Kierath said in March.
“In our view, Chemist Warehouse retail metrics are first class, and its store rollout should deliver investors a utopic high growth with low volatility and thus command a premium multiple.”
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