Whats Going On?
The shares of these three companies outperformed the market last week in the wake of persistent M&A talk: Vodafone stock was up 2.9%; Smith & Nephew stock was up 3%; and AstraZeneca stock was up 7.3%. The FTSE 100 index gained only 0.6% in the last five trading sessions.Based on fundamentals, the equity valuation of Vodafone has a downside of up to 50%, while both S&N stock and Astra stock may fall more than 25% to the end of the first quarter 2015, in my view.
Vodafone: The Worst OfThe Three
Vodafone stock has been under pressure ever since AT&T offered to acquire Direct TV for almost $50bn. Once again, market rumours suggest that AT&T may now be ready to splash out top dollar to snap up the British behemoth.
I say: a takeover of the British group would be the only way to create value for shareholders. I am not convinced, however, that AT&T can afford a bid rumoured to be in region of 3 for each Vodafone share. Such a price tag would represent a 50% premium to Vodafones current equity valuation.
Assuming at least 50% of the deal is financed by debt, the net leverage of the combined entity would pose serious problems. Management would have to bank on cost synergies of up to 9% of Vodafones revenue to create any value, according to my calculations. Id rather stop here: the disastrous Vodafone/Mannesmann tie-up springs to mind..
Smith & Nephew: A Solid Business But The Stock Is Pricey
S&N is a solid business operating in a sector that will benefit from further consolidation. This is the bit I like. I just dont believe that S&N shareholders will enjoy significant upside if a takeover offer emerges and the risk that S&N wont be taken over is real.
S&N shares price in a takeover premium in the region of 25%, in my view. The stock trades in line with the level it recorded in early June, when I noted that investors may have well decided to stick to their bet for some time. Now, however, value should be sought elsewhere. In fact, S&N wont be the preferred option in more volatile trading conditions, and it can also be argued that its operations may find it difficult to grow organically in the near future.
Of course, S&N remains a strong business boasting hefty operating margins and a relatively strong balance sheet.
AstraZeneca: A Risky Bet
I have been impressed by the performance of Astra stock in the recent weeks, particularly because I dont think Pfizer will make a comeback for Astra. Takeover rumours have returned with a vengeance in the last few days, but they should be dismissed, in my view.
Then, downside risk becomes apparent for Astra shareholders if Astra remains independent. Astra stock lost 7.5% of value between the end of July and early August. That drop came down to volatility, rather than anything else. Right, so: on what basis is Astra stock trading right now?
What appears evident is that investors are willing to buy on weakness in order to secure short-term gains that are hardly sustainable in the long run. Astra is more troubled than other rivals, and its bullish long-term projections are just that projections.
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Alessandro Pasetti has no position in any shares mentioned. The Motley Fool UK owns shares of Smith & Nephew. We Fools don’t all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.