On July 20th I highlighted the "Dream Come True" in Avaya Inc. (NYSE: AV). At the time, I thought the $17.50 acquisition price could be bested by a competing bidder and the current acquisition price served as a floor. Since this post the stock has managed to trade off several percentage points but I believe the situation has only become more attractive.
The deal is still expected to close in the fall. Assuming the deal closes December 1st (most likely a very conservative estimate) the current annualized rate of return on the deal is roughly 16% -- a very attractive yield if you believe the deal should go through.
Should you believe in this deal's prospects? In my opinion, the answer to this question is an emphatic yes. Interestingly, two of the company's executives agree as they recently bought $1.4 million of stock going into this deal. As a Wall Street Journal article reports [subscription] today, insiders rarely buy stock before their company goes private. This buy exemplifies confidence in the deal's prospects from the inside. The buyers -- TPG and Silver Lake -- have already arranged financing, according to the WSJ piece.
If the chances of the deal being completed remain good, then why would the stock sell-off, you might ask. I think the answer to this question is two-fold. First, nearly every company in the process of an LBO sold off as the credit market showed signs of weakness during the last two months. Additionally, many funds have been cutting their merger arb exposure, likely forcing liquidations in Avaya, among other companies.
Avaya is still an interesting situation. At the current price, you are set to earn a 4-5% absolute rate of return on your money (roughly in-line with Treasuries and CDs). But you would expect to make this in 2-4 months instead of twelve. With the company's executives loading up on shares and the private-equity buyers already having financed the deal, I think the likelihood of this deal being completed remains strong.
The Washington Post thinks the recently announced deal by Silver Lake Partners and Texas Pacific Group to take telecommunications equipment maker, Avaya, Inc. (NYSE: AV), private indicates a perilous decline in credit standards. And the Post thinks this decline will contribute to the end of the takeover boom.
I always feel a bit skeptical when I read these kinds of articles. It's not so much that the logic is flawed, but the timing is often hard to pin down. I am guilty of doing the same thing myself since I wrote something similar last August. And yet the takeover boom refuses to bend to the will of the pundits.
The Post believes there are three reasons why the takeover boom has peaked:
Since the early 1990s, the private equity firm Texas Pacific Group has built a great reputation with turnarounds. One marquee deal was Continental Airlines (NYSE: CAL). TPG has also been quite savvy with high-tech targets. For example, the firm is in the process of buying Avaya Inc. (NYSE: AV).
But it's not a complete cake-walk for TPG. Take a look at the firm's $560 million deal to buyout consumer electronics company JVC. The issue? Well, lenders are backing off. After all, interest rates have been rising.
What's more, JVC is still deteriorating. It is in a tough marketplace and must compete against biggies like Sony Corporation (ADR) (NYSE: SNE).
Even so, a deal still may get done -- but not necessarily with TPG. Rumor has it that Cerberus Capital may may be interested in JVC too.
Tom Taulli is the author of various books, including the Complete M&A Handbook and the EDGAR-Online Guide to Decoding Financial Statements.
Before getting to that, it's worth pointing out that the notion of borrowing money to buy a high tech company is not that great. The reason is that high tech companies can quickly fall behind and lose market share if they don't come up with new products. And private equity does not usually like to invest in R&D. But if private equity buys a company with long-standing customer relationships, such concerns may be offset by the substantial cost reductions available.
Having said that, here's a list of potential candidates:
Nortel Networks Corp. (NYSE: NT). This network equipment supplier lost $103 million on $2.5 billion in sales in the first quarter of 2007. It also lost out on its bid to acquire Avaya Inc. (NYSE: AV). With a market capitalization of $11.4 billion, a 30% premium would make this $14.8 billion deal the biggest network equipment LBO.
Alcatel-Lucent (NYSE: ALU). This network equipment supplier lost $590 million on $12.3 billion in sales in 2006. With a market capitalization of $30.9 billion, a 30% premium would make this the biggest deal of the lot at $40.1 billion. Given the integration challenges between a U.S. and French firm and the enormous legacy costs, an LBO of this firm might be quite profitable.
Juniper Networks Inc. (NASDAQ: JNPR). This network equipment supplier lost $1 billion on $2.3 billion in sales in 2006. With a market capitalization of $13.9 billion, a 30% premium would make this an $18 billion deal. Unlike NT, however, I think JNPR will resist the LBO route because it has not been around long enough to accumulate the kind of legacy problems NT has in spades.
What do you think of this list? What other candidates come to mind?
Private equity and investors in general are beginning to open up their pocketbooks for technology. Palm Inc (NASDAQ: PALM) announced a deal with Elevation Partners which agreed to invest $325 million for a 25 percent stake in Palm.
Slowly but surely, private equity and investor interest in technology is picking up. This could be the very early stages of a big bull market run for tech stocks.
Investors will receive $17.50 a share. That's 4.7% more than yesterday's closing price and 28% more than before speculation about a purchase surfaced on May 29.
This is the latest in a string of high tech LBOs. Recent ones include:
Acxiom Corp. (NASDAQ: ACXM): This computer and database services provider said May 16 it's being bought by Silver Lake and ValueAct Capital Partners LP for about $2.24 billion.
I am not sold on the competitive advantages that will result from this deal. Maybe there's some overhead to be cut but I question how much private equity is willing to invest in R&D to jump start Avaya's product pipeline.
Avaya's stock has been trading in the $13 range. Word is that a buy-out might bring $17.
Avaya has a long legacy in the telecom industry. It has been at one time or another part of the original AT&T and Lucent, which merged with Alcatel last year.
Whether Nortel ends up owning Avaya or not, it is probably a better strategic fit than almost any other acquirer. While Avaya sells the telecom equipment that large companies use, Nortel sell the equipment that large telecom companies use. The odds that there is overlap in R&D and management costs is fairly high. There is also a duplication of public company costs.
With Avaya's stock already above $17, either a buy-out will be announced in the next few days, or there will be some very disappointed shareholders.
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