Adding more to the platter

Alberto Colla draws three key lessons from the Warrnambool Cheese auction which could help directors create and successfully navigate a competitive auction process.

Auctions for corporate control are often fluid, fast moving affairs. The proliferation of auctions of Australian Securities Exchange (ASX) listed entities involving two or more bidders provides useful guidance on how directors of a target company can create a competitive auction process and successfully navigate it. David Jones has recently announced a recommended takeover offer of $4 cash per share from the South African listed retailer Woolworths. There is speculation that competing offers for David Jones may emerge. Quite rightly, the David Jones directors qualified their public recommendation of Woolworths’ offer as applying “in the absence of a superior proposal”.

This is not mere window dressing. There have been many examples of target boards invoking this qualification to withdraw a public recommendation if they subsequently receive what they consider to be a superior proposal. Of course, any decision by the David Jones board to withdraw its current recommendation would not be taken lightly. For a start, David Jones would incur a $22 million break fee payable to Woolworths. But importantly, the board would need to be very confident that any competing offer it elects to support will deliver a better outcome for shareholders than the current Woolworths offer.

The recent contest for control of Warrnambool Cheese is an excellent illustration of directors of a listed target making informed, real-time decisions to discharge their overriding duty to secure the best outcome for their shareholders. The Warrnambool Cheese takeover involved nine offers from three separate bidders – Bega Cheese, Saputo and Murray Goulburn. That auction concluded with control passing to Saputo at a price that represented a premium of 106 per cent to the price at which Warrnambool Cheese shares were trading before the first bid was received.

Three key lessons for target company directors can be drawn from the Warrnambool Cheese auction.

1. Facilitate competitive tension

A target that recommends a takeover bid must never allow itself to become too close to the bidder and discourage competing bidders from coming forward with a potentially superior offer. In a friendly takeover, the bidder will usually seek contractual “deal protections”, such as exclusivity undertakings, a notification and matching right if a superior proposal is received and/or a break fee that becomes payable if, for example, the target changes or withdraws its public recommendation for the bid. In negotiating such terms, the target must not agree to terms that unduly lock up the target by discouraging or restricting the potential for competing bids to emerge.

Facilitating competitive tension also requires the target to preserve its ability to respond to unsolicited approaches and to engage meaningfully with the proponent of an unsolicited approach. This includes allowing a competing bidder the same level of access to the target’s confidential information, so that the competing bidder can complete its confirmatory due diligence. This provides a level playing field among competing bidders. Of course, as we saw with the Warrnambool takeover, there is only so much a target can do to create a level playing field where competing bidders have different regulatory approvals they need to navigate. Warrnambool could not control the statutory timeframe for Bega’s Australian Competition and Consumer Commission informal clearance, Saputo’s Foreign Investment Review Board approval nor Murray Goulburn’s Australian Competition Tribunal authorisation process. Such issues aside, the target should, to the extent possible, ensure that the bidders are given an equal opportunity to make their bid.

2. Maximise value

When competing bids emerge, the company is effectively up for sale and the target board’s overriding duty is to maximise value for shareholders. The board must not allow extraneous considerations to interfere with its assessment of which offer delivers the best financial outcome. Irrelevant considerations include national interest concerns, beliefs about who might be the business’s best custodian, the likely loss of office by incumbent board members, concerns for the continuing employment of management and welfare of employees, suppliers or other stakeholders.

3. Don’t just focus on price

When evaluating competing offers, attention naturally focuses on comparing the headline offer price between competing offers. This comparison may become complicated if the competing offers involve different forms of consideration – such as where one bid is “all cash” whereas the other bid may be “all scrip” or a combination of cash and scrip. Where a bid is scrip-based, this requires the target to form a view on the true underlying value of the bidder’s scrip as it is subject to inherent market fluctuations.

Even without the complicating factors created by competing bids with different forms of considerations, a comparison of headline price will not be the sole determinant of which is the superior offer. The other equally important evaluation criteria are the levels of execution certainty of each offer. This involves assessing the nature and scope of the conditions of each offer, the credentials of each prospective acquirer and the certainty of their funding (if an offer is or includes cash) and the time to completion under each offer.

In the contest for control of Warrnambool Cheese, Murray Goulbourn’s offer of $9.50 per share was $0.50 higher than Saputo’s recommended base offer of $9.00 per share  (ignoring the three contingent price increases Saputo built into its offer). Although Murray Goulburn’s offer was $0.50 higher than Saputo’s base offer price, the Warrnambool board concluded that Saputo’s offer was nevertheless superior based on an overall comparative assessment of value, conditionality and timing. This was principally because Saputo’s offer was unconditional whereas Murray Goulburn’s offer was subject to numerous conditions, the most significant being authorisation from the Australian Competition Tribunal and a 50 per cent minimum acceptance condition.

The Warrnambool board undertook a sustained public relations campaign to convince its shareholders and the broader market that the offer price is not the only relevant criteria when evaluating competing bids and that certainty of outcome (in terms of conditionality and timing) is equally important. This ultimately resonated with Bega who, in a pivotal development, sold its 18.8 per cent stake into the Saputo offer. The dominoes then fell – other key shareholders followed suit, enlivening two out of a possible three contingent price increases from Saputo. Saputo’s final offer price increased to $9.40.

The bottom line

Once a listed company is officially “in play”, it is important to anticipate commercial tactics and strategies of bidders and potential counter- bidders. This helps create the time and space for competing offers to emerge. Finally, a target’s board should always be cognisant of execution risk with any takeover offer – the board should never allow itself to be seduced by a headline offer price that is likely to be illusory having regard to the nature of any regulatory, funding or other non-waivable conditions attached to the offer.