In yet another case of giant-eating-giant consolidation, Rolls-Royce Plc has made a surprise $933 million agreed cash offer for Vickers Plc, in a move aimed at making Rolls-Royce the global leader in marine power systems. The acquisition would place a significant portion of marine propulsion products - including the Ulstein, Aquamaster, Kamewa, Rauma, Brown Brothers and Mitchell Bearings brands - in one company's control, affecting operators of all vessel types, from VLCCs to tugboats.
Ironically, the move comes just as Vickers put the finishing touches on its own revived industrial empire, by acquiring several marine propulsion equipment suppliers in order to dominate a once fragmented piece of the international maritime market.
But the deal, pitched at a 53 percent premium over Vickers share price, prompted concern from some analysts who felt Rolls-Royce may be paying too much merely to bolster its marine propulsion business.
"This was a big surprise," said analyst Brian O'Keefe at Commerzbank in London. "On the marine side the deal makes sense although that it is only half of Vickers business."
Stock Price Wavering
Vickers shares jumped 80.5 pence to 246p, just shy of the 250p cash offer, following the announcement of the offer. However, Rolls-Royce shares lost more than four percent to 216p.
Moody's Investors Service placed the A3 senior unsecured debt ratings of Rolls-Royce Plc under review for possible downgrade.
The rating agency will also focus on the operating synergies of the two companies and will assess the potential for the combined entity to generate significant cash flows -- from operations and any divestments -- to quickly restore its historical balance sheet strength.
Shares in aero engine maker Rolls-Royce Plc bounced back the following day. Recouping part of the previous day's 10.8p fall to its lowest close in 11 months, Rolls shares firmed 3.8p or 1.7 percent to 219p.
Active volume of 19 million shares made it the second most active stock in the UK market.
Despite the industry's negative response to the Vickers bid, analysts at Credit Suisse First Boston (CSFB) repeated a "buy" rating on Rolls on the grounds the acquisition will be significantly earnings enhancing and was a good strategic fit.
"The price looks sensible and the deal should cover its cost of capital in two to three years
," said CSFB analyst Herald Hendrikse in a research note. "The catalyst for performance will be to meet or beat the next half-year earnings per share numbers, accompanied by improved cash flow."
Division to be Sold
"The acquisition has powerful industrial and financial logic," said Ralph Robins
, chairman of Rolls-Royce. "The combination of the two marine businesses will provide a wide range of competitive products, services and brands, creating growth and enhancing shareholder value."
Given this focus on marine, Vickers' land-based defense business - which includes battle tanks and armored vehicles - is seen as surplus to requirements. R Robins said the sale of this division was inevitable.
"Our strategy is to get to number one or two in the various markets in which we operate. We are up there in aerospace - this will put us there in marine," Robins said.
The merger will boost Rolls-Royce's exposure to marine power systems to around 20 percent of the enlarged group sales or around $1.4 billion in turnover.
Rolls said the marine power systems market was a growth market, with the high-speed sea transport sector growing annually at some eight percent.
The Rebuilding Process
Vickers had been in the process of reshaping, after selling its Rolls-Royce luxury car arm to Germany's Volkswagen AG last year for $787 million. That transaction was accompanied by a $448.9 million cash return to Vickers shareholders.
The motor arm had been floated off from parent company Rolls-Royce in 1973 and was bought by Vickers in 1980 after running into financial problems. Vickers boosted its marine business through the purchase of Norway's Ulstein in a $500 million deal last year.
Analysts speculated Rolls-Royce, which admits it approached Vickers first, may have tried separately to pry the marine power systems business from Vickers but was told the division was only for sale as part of the entire group. TI Group Plc is believed to have received a similar response.
"There was no a la carte, it was a set menu," said O'Keefe, who suggests Rolls-Royce is paying a high price for Vickers on a valuation basis. He estimates a trailing PE (price earnings) multiple for Vickers of 19.8 and a prospective PE for Rolls-Royce of 12.6 compared with a sector average of 14.9.
Rolls-Royce expects the acquisition to be earnings enhancing in the first full year
before goodwill and exceptional items. Robins said the group would continue to target double-digit earnings per share growth
from its basic business.
The deal, which is being financed from banking facilities arranged by Chase Manhattan and Greenwich NatWest, leaves the company with interest cover of around seven times. Interest cover is a measure of the company's ability to pay interest on borrowings using profits from the year. A higher number indicates less risk.
Robins conceded he would be reasonably relaxed with cover of around five times.