It’s not often we see a ‘bet the company’ type of deal, but yesterday we got one with the surprise move by Super Retail Group to buy top sports retailer Rebel Group for $610 million from private equity firm Archer Capital.
The deal came as something of a shock to the market, given the uncertainty in financial markets, especially equities.
The volatility and the sluggish level of growth in much of retailing had seen Archer abandon plans to float Rebel Sports and its 128 stores across Australia last year and then defer the IPO indefinitely this year.
Super Retail has been a successful retailer of auto care products through its SuperCheap Auto chain and recreational products through two chains, Ray’s Outdoors and BCF (Boating, Camping and Fishing).
So on the face of it there is some logic to the Supercheap buy from a diversification point of view and from buying an asset what a private equity group doesn’t want to keep.
Super Retail thinks it’s a great deal and says the acquisition would boost earnings per share in the current fiscal year and was a strong strategic fit.
But then it has to because the company is planning to pay for the purchase through a 9 for 19 rights offering at $5.34 a share to raise $334 million of the $610 million cost. The rest will be paid for by debt.
Yesterday’s statement said Rebel Sports, with a 24% market share, had sales of $603 million and earnings before interest tax and depreciation of $77 million in the current financial year. But there’s no detail on whether it was actually earning a profit. Knowing private equity and how they like to load debt onto their purchases, it’s improbable that Rebel was earning a significant after tax profit, or paying much in the way of tax.
Super Retail had a market capitalisation of $860 million, so the $610 purchase is an enormous risk as it’s 71% of the value of the company before the deal.
If it is slow to generate the returns Supercheap claims it will, or falls in a hole, the company will be in big trouble.
The issue price of $5.34 a share is an 18% discount to the last traded price of $6.50, so after taking that into account, the margin for error is even smaller.
And even though the company claims the purchase will add to eps from the first year, Supercheap says the buy will take five years to meet the group’s 20% return hurdle rate.
That’s an awfully long time and the economy and retailing could be squeezed even further (or boom, then bust).
In the statement, Super Retail said deal will add "significant shareholder value through the delivery of pre-tax synergies that are estimated by Super Retail management to be in the order of $10 million on an annualised basis, of which approximately 50% are anticipated to be achieved in FY12".
Back in late 2006 Archer paid nearly $370 million for Rebel and at the time the publicity said Rebel had 61 outlets and Archer merged Rebel with the Amart sporting goods chain which had 70 shops at the time.
According to yesterday’s statement those 131 outlets had been reduced slightly to 90 Rebel Sport stores, 36 Amart stores and 2 Performance Sports stores.
In the statement yesterday, Peter Birtles CEO of Super retail said, "The acquisition represents a fantastic opportunity for the Group to leverage its retail and supply expertise in a highly complementary business and to build Rebel’s position as the national leader in sporting goods retailing".
"There is a natural strategic fit between the Super Retail and Rebel businesses. Rebel will strengthen the Group’s existing leisure and apparel retail offering, while the Group can provide the required expertise to accelerate Rebel’s growth and store roll-out profile and to optimise Rebel’s existing operations.
"There is a significant potential opportunity to grow Rebel from 128 stores today to a total of 185 stores over the medium term, across both the Rebel and Amart banners.
"In addition, the Group anticipates synergistic benefits will be realised through optimisation of the procurement, logistics, supply chain, marketing, IT and administrative functions.
"Both Super Retail and Rebel are focused on providing customers with a comprehensive product offering and excellent customer service, delivered by passionate team members." Mr Birtles said.
But there doesn’t seem to be much margin for error.
Private equity owners do not often sell cheap and market analysts pointed to the underperformance of Myer after TPG floated it at $4.10 a share. Myer shares traded at $2.23, up 3c, yesterday, so no real growth there at all.
And there’s also the experience of adventurewear group Kathmandu which was floated around $1.70 a share, had a tough first year, but bounced back in 2011 with the best sales and profit growth of any retailer in the country. It floated at a premium of 4.4% to the issue price.
Kathmandu traded at $1.72 yesterday, so no real performance since the float two years ago to this month.
