Soul Patts offer for Perpetual may flush out other bidders, says Citi

The Washington H Soul Pattinson offer for Perpetual likely undervalues the company but could encourage other potential bidders, says Citi.

Perpetual chief executive Rob Adams. Picture: John Feder

Washington H Soul Pattinson’s opportunistic takeover offer for Perpetual likely undervalues the 137-year-old global financial services company but should flush out other potential bidders.

The sharemarket quickly jumped to that conclusion on Thursday as Perpetual shares jumped 12 per cent to a more than four-month high of $26.50 before closing up 6.6 per cent at $25.35.

Investors who bought in as Soul Pattinson recently amassed a stake of up to 9.9 per cent – fast becoming Perpetual’s biggest shareholder – would have been quick to book some profits as the share price neared the implied offer price of $27. Perpetual had already snubbed the offer.

But if past offers for the company are a guide, the battle for Perpetual is likely to have just begun. Soul Pattinsons’ complicated non-binding and indicative offer to acquire all the Perpetual shares it doesn’t already own via a scheme of arrangement was submitted on 21 November.

It was only after it directly informed the market of its offer on Wednesday that Perpetual’s board was moved to publicly reject in on the grounds that it “materially undervalues” the company.

“Not surprisingly, Perpetual sees the proposal as undervaluing the business and has rejected it, so the bid is not certain to lead to anything,” said Citi analyst Nigel Pittaway. “It also has the potential to flush out other bidders.”

In its announcement, Perpetual noted that its had “attracted market interest from time to time”. It maintained that a demerger would be the best way to maximise shareholder value.

Mr Pittaway said Perpetual’s claim that the bid undervalued the business was supported by his sum of the parts calculation which suggested a potential valuation of around $29.20 a share.

Perpetual also cited significant execution and operational risk over a protracted implementation period. Still, at face value, Soul Pattinson’s bid “seems to circumvent the main issue of separating out Corporate Trust, namely the capital gains tax liability that would ensue” as it involves a demerger of Perpetual Asset Management to Perpetual shareholders, Mr Pittaway said.

An all scrip deal would also “seemingly leave Perpetual Asset Management largely debt free”.

The rejected proposal would see Soul Pattinson retain Perpetual’s Corporate Trust and Wealth Management businesses for a consideration that Soul Pattinson sees as valuing the businesses at $1,885m, comprising scrip worth $1,060m plus assumed liabilities.

“Under the terms of the proposal, Perpetual shareholders would end up with WHSP shares plus shares in the residual Asset Management business,” Mr Pittaway said. “Importantly, Soul Pattinson would assume all group net debt leaving the asset management business largely debt free.

“The conglomerate discount has been a source of frustration for (Perpetual) management and shareholders for some time.

“While this initial foray has not led to an agreed deal, today’s two announcements present some hope that the issue will finally be addressed,” he added.

Still, the tax issues “remain a hurdle to overcome”, suggesting this might require a structure similar to that proposed by Soul Pattinson and some execution and operational risk.

Bell Potter analyst Marcus Barnard sees “two problems” with Soul Pattinson’s offer. First, he noted the proposal offers “PAM scrip worth an estimated $2bn. While we would agree that $266m of PAM EBITDA should be worth 8 times or $2bn, we don’t believe this is how the market was valuing PAM, implicitly valuing it at about 4.7 times or $1.4bn.

Second, he said Soul Pattinson would assume Perpetual’s net debt including cash, which “appears to leave very little cash in the residual PAM business”.