How can Micro Focus be worth double its stock market value?

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In nine times out of ten takeovers are completed at a premium to the stock market’s valuation.

It makes sense for the buying company to come in and offer slightly above market valuation to ensure a deal goes through.

Takeovers usually occur at a premium of up to 50%, although this isn’t a set figure.

Recently, Frasers Group offered a 60% premium to buy out MySale Group.

They can, also, happen significantly lower than that, with Ted Baker agreeing to sell its business for 110p per share, only an 18% premium to the previous close before the deal with Authentic Brands Group, which owns Reebok, was confirmed.

However, that premium is very rarely in the region of 100%, as was the case with OpenText’s proposed acquisition of Micro Focus.

Canadian-based OpenText said it will purchase British software company Micro Focus in a deal worth £5.1bn, including debt.

Under the terms of the agreement, Micro Focus shareholders will receive 532p per share, a 98% premium to the firm’s closing price as of 24 August, giving it a market capitalisation of £1.8bn.

Where do buyers get their valuation from?

Much of what a buying company decides is baked into the valuation is what it might be worth further down the line.

Take Micro Focus as an example, where shares were valued at 268.3p prior to today’s announcement.

However, rewind to December 2017, and its stock was valued at 2,682p, meaning today’s 532p offer would be considered a huge discount.

Even more recently and compared to this time last year, the shares are down 40% so an opportunistic cheap buy perhaps, but there are other factors which are ultimately baked into the final offer.

Julie Palmer, a partner at corporate restructuring firm Begbies Traynor (AIM:BEG) notes that growth opportunities play a part.

Again focusing on Micro, OpenText “will have been looking at things that have been added to the stable.”

One of those strings to the bow would be cybersecurity, which is a growing market and one that Micro Focus in recent years has been pushing forward with, according to Palmer.

Worth pointing out in the statement issued today is that OpenText added the acquisition “represents an opportunity for “significant” valuation accretion, with the joint enterprise expected to generate US$6.2bn in revenue annually and US$2.2bn in adjusted underlying earnings (EBITDA).

The geographic footprint is also key, meaning the buying company can enter markets where the bought company is already established without having to go through the much longer-winded and perhaps just as costly process of establishing market share.

Synergies, often a byword for job cuts, will also have a bearing as they include overlaps such as cross-selling, pooling technologies and skillsets. 

A discount market

The current backdrop isn’t pretty, with inflation wreaking havoc across western economies.

So, has this, with share prices of plenty of businesses nosediving, created a bargain-filled market?

“I think at the moment, the US markets are generally a bit more robust than European markets, and I think the UK markets are regarded as a bit of a place for bargain hunting at the moment, particularly tech stocks.”

Palmer isn’t wrong, either.

Earlier this month, Darktrace revealed it was in talks with US private equity company Thoma Bravo over a potential buyout.

In May, Ideagen agreed to a £1.1bn takeover from private equity firm Hg Pooled Management.

Playtech was the target of Hong-Kong based investment company TTB Partners before the firm decided not to pursue it, while The Hutt Group, which was open to being bought, said it had received no acceptable offers despite there being numerous interested parties.

It’s safe to say the appetite for UK tech companies is there, and given that all these companies had experienced a sharp decline in share price this year, buyers are possibly factoring in the current market conditions and expecting a revival once conditions ease.

Who gets it right?

When there is such a disparity between what the market values a company at and what a trade buyer is willing to offer, especially at more than double the current share price, it raises the question of who is right.

“Only time can tell,” said Palmer.

“People are pleased with today’s news, with the share price climbing to 521p.”

“However, the share price was probably going to start recovering on its own, and something north of 600p would have been fair value in time, so the market is partly influenced by macroeconomics.”

Time will tell if OpenText paid over the odds for Micro Focus, but ultimately it paid what it thinks it’s worth to them, and what it could be worth in the future.