Wesfarmers has rewritten the book on Australian retail scale and profitability. So when it set its sights on the pharmacy sector and made a bid for Priceline owner API, Australia’s collective chemists’ radar pinged loudly.
And Sigma, API’s major rival in the corporate pharmacy space, moved to defcon one – outbidding Wesfarmers and setting battle lines for a corporate chemist war.
While a tie-up between Sigma and API has been in prospect for 20 years, a combination of regulatory intervention, timing and pricing had thwarted their nuptials.
API, which owns Priceline pharmacies, is the subject of a bidding war.Credit:Jessica Hromas
When Wesfarmers last week lifted its offer price for API to a level that the board deemed fair value, Sigma knew its window of opportunity was closing.
Some, like Sigma’s largest shareholder Allan Gray, reckon it got spooked into action by FOMO and in haste has delivered an offer that “reeks of capital misallocation”, according to the fund manager’s chief investment officer Simon Mawhinney.
Only a few years back the two companies had been working on a get-together that was framed by API bidding for Sigma. It was ultimately rebuffed by Sigma as not meeting value criteria – a decision that was supported at the time by Allan Gray.
Mawhinney reckons Sigma’s bid for API is “significantly worse” for Sigma shareholders than the deal it knocked back last time around.
Under the deal announced on Monday, Sigma will offer mostly its own scrip with a smattering of cash for API shares. If the offer is overly generous Sigma shareholders risk being significantly diluted. This is particularly so if, as Mawhinney argues, Sigma shares are undervalued at the current price.
Further confusing the deal is the fact that Sigma’s bid has been launched in something of a governance vacuum.
The current chief executive, Mark Hooper, is busy packing his pot plants into cardboard boxes and booking a hire car to leave the office for the last time, while chief executive-in-waiting Vikesh Ramsunder is still negotiating his parking spot.
The timing suggests that the Sigma board was spooked by Wesfarmers crashing their long-term plan to hook up with API. “Getting spooked is not a reason to write out a blank cheque,” says Mawhinney in his full-throated criticism of the deal.
He believes the only chance to save Sigma from a financially crazy deal would be for its board to come to its senses. This is Mawhinney’s “clutching at straws” moment.
He is hoping the second line of defence will be the prospect of the Sigma/API tie up being torpedoed by the Australian Competition and Consumer Commission.
Both players are involved in pharmacy retailing but more crucially they are two of the three large suppliers to Australian retail chemists.
A 2002 merger agreement was blocked by the ACCC but the landscape has changed in many respects including a move to online and the emergence of Chemist Warehouse as a sizeable force on the retail scene.
For the $65 billion West Australian conglomerate, the $764 million bid for API is just an hors d’oeuvre.
Realistically Mawhinney’s best hope of being saved is Wesfarmers lifting its offer for API and outbidding Sigma.
For the $65 billion West Australian conglomerate, the $764 million bid for API is just an hors d’oeuvre – the price it is prepared to pay to take a peek at the beauty and health sector which it clearly thinks has potential for growth.
Famous for its financial discipline, it remains to be seen whether Wesfarmers is prepared to pay more.
At this stage the board of API has given both suitors access to due diligence but is favouring Sigma’s higher offer. Once both parties have looked under API’s hood they will be in a position to determine whether they are up for a continued bidding war.
Sigma has the advantage of being able to access as much as $45 million in annual synergies from the merger which, in theory, justified it offering a higher price.
If Wesfarmers is ultimately successful there is a genuine fear among small pharmacists that the shape of the industry will change.
Although large listed companies such as API and Sigma have retail operations, Wesfarmers has demonstrated in hardware and office supplies that scale is king.
It is also expected to bring its extensive skills in online, loyalty and data into the pharmacy and beauty markets. Acquiring API would be just the beginning.
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