Wesfarmers bides its time in fight for Priceline owner API

Wesfarmers is understood to be in no rush to increase its bid for Australian Pharmaceutical Industries.

Wesfarmers and Sigma are jostling for Priceline owner Australian Pharmaceutical Industries.

Sigma’s arrival in the bidding war for its smaller rival, Australian Pharmaceutical Industries, has placed the 19.3 per cent shareholding of API’s biggest investor effectively in limbo.

Wesfarmers, which kick started the bidding for API in July, has a call option on that holding, which belongs to Washington H. Soul Pattinson — an investment house that traces its connections with pharmacy back almost 150 years.

But that agreement is subject to a superior takeover offer. And API’s board, while it said Sigma’s cash and scrip offer worth $1.57 a share was “more favourable” than Wesfarmers’ all cash bid of $1.55, it is yet to determine whether it is “superior”.

This leaves Wesfarmers, which is currently completing due diligence into API, with two options: increase its bid or stay quiet, continuing the DD process.

“Wesfarmers may only exercise the option if a public announcement of a competing proposal is made, provided that, where the board of API has announced that the competing proposal is a superior proposal,” the option agreement states.

“Wesfarmers must also announce or otherwise formally propose to API a proposal that Wesfarmers determines, acting reasonably, provides an equivalent or superior outcome for the shareholders of API as a whole compared to the competing proposal.

With API’s shares continuing to fall on Wednesday, down 0.7 per cent to $1.50, Wesfarmers is unlikely to rush to lob a third bid for API. While it has a sizeable balance sheet, Wesfarmers — which owns Bunnings, Kmart, Target and Officeworks — is also disciplined when it comes to investor returns. In other words, while it has a hole burning its pocket, it doesn’t let any cash slip through unless the numbers stack up.

The option agreement also bars Soul Patts and Sigma speaking to each other.

“(Soul Patts) must not … participate in or continue any negotiations or discussions with a third party in relation to a competing proposal,” the agreement states.

Meanwhile, Sigma’s bid is facing fierce resistance from its biggest shareholder Allan Gray, which is demanding a vote on the proposal, which if successful would nearly halve the holdings of current Sigma shareholders — with API investors owning 48.8 per cent of the merged company.

Simon Mawhinney, of Allan Gray, has branded Sigma’s bid as “economically irrational” considering it could have merged with API two years ago on “better terms” — a proposal Sigma’s board rejected at the time. Then it could have bought Soul Patts’ holding last year for as low as $1.10 a share, saving more than $45m.

It is understood that Sigma didn’t believe the timing was right to buy Soul Patts’ holding last year, given it was in the middle of completing a $300m upgrade of its distribution network and it had no takeover intentions then for API.

But Wesfarmers, and its retail prowess, has shifted Sigma's attitude towards its smaller rival. Wesfarmers is the country’s biggest retailer, with plans to create a stand-alone health division, which if successful would shake up the pharmacy industry.

Sigma chairman Ray Gunston believes merging the two companies would create a “stronger platform to operate in a changing landscape” and generate cost savings of $45m a year.

Sigma has also been left with a revenue gap after walking away from its Chemist Warehouse contract 2018. Merging with API would more than plug that hole and strengthen its dominance of the pharmaceutical wholesale and distribution market.

But the clock is ticking. Some market insiders were speculating that private equity may express interest in API, believing its Priceline business is undervalued and the pharmacy wholesale market is an attractive growth area.

Ramsay — Australia’s biggest private hospital operator — began branching out from hospitals last decade, moving into Australia’s $16bn pharmacy sector in its quest to become a fully integrated healthcare company. Canadian private equity giant Brookfield has since taken over smaller rival Healthscope after being on the hunt for healthcare assets for some time.

Meanwhile private equity firm Kohlberg Kravis Roberts fended off competition from API and Bain Capital in 2017 to buy Laser Clinics Australia for $650m.

As it stands, however, API shares have been steadily or falling slightly, indicating the market is betting on Wesfarmers becoming the successful suitor.