General Electric's (NYSE:GE) proposed takeover of Alstom (OTCPK:ALSMY) is a significant step for the company. However, the takeover has been delayed due to some political issues -- the French government believes GE's initial bid was not good enough, and they wanted the Munich-based Siemens AG (OTCPK:SIEGY) to make an offer; however, Siemens has yet to submit an official bid for the company. In order to smooth the process and make the takeover happen, Jeffrey Immelt traveled himself to France and met the political leadership. As a result of his personal appearance, the stance of the French leadership is softening -- also, GE has promised to add another 1,000 jobs, which has also helped change the mood to some extent.
What is the Significance of the Deal?
The Alstom deal is extremely important for GE -- the prospect of operational synergies is considerable, as both the businesses complement each other. The deal will enhance GE's assets in the power segment. The company will increase its presence in Europe through this deal. Furthermore, the deal will allow the company to come closer to its target of 70% earnings from the industrial segment. There is no doubt about the operational importance of the deal to GE -- however, the questions about the valuation continue to exist. The deal is becoming expensive for the company, and at 7.9x trailing twelve-month EBIDTA, the acquisition looks a bit expensive.
GE expects to gain considerable benefits from the deal -- the company is expecting that the acquisition will improve its earnings per share by $0.08 to $0.1 by 2016. The most important thing for GE will be the improvement in its operating efficiency after it builds cooperation with Alstom assets - GE can achieve an improvement of 7%-10%. In the longer term, the company anticipates that it will save $1.2 billion from cost synergies over the next five years, should this deal happen.
GE is also considering giving control of its transport unit to Alstom in order to boost chances of this deal. The operating profit margins of both the power and transport sectors of GE are almost the same. The power segment has an operating profit of 16.1%, which has recently increased by 120 basis points. The transport segment has a profit margin of 16.5%, which has recently decreased by 230 basis points. Also, the power segment revenues rose by 14% in the first quarter this year, whereas revenue from the transportation segment fell 14% in the same period. Considering these factors, giving up the transportation unit with falling revenues and falling operating margin for a better share of growing the power segment will not be a bad idea.
Can the Deal Save Taxes for the Company?
Buying a foreign company can be a good way to utilize cash to add value to the operations of the business -- most companies try to avoid paying tax from the foreign cash reserves, and instead of bringing the cash home, some companies try to use them to make acquisitions. According to Bloomberg, GE has $57 billion in its overseas cash reserves, and the company will use those cash reserves to pay for the Alstom deal. U.S. companies pay up to 35% tax on the cash that these companies repatriate.
By using the overseas cash, the company can bring the eventual cost of the deal down, as it will allow the company to save 35% in taxes. Taking into account the tax savings, the deal does not look as expensive as the multiple mentioned above. Also, the operational significance of the deal makes it a very important deal for the company.
The company is trying its best to tie up the deal - the power segment is growing for the company, and the global demand is also on the rise for the complete power solutions. As a result, the growth opportunity from the Alstom deal is substantial. If the deal goes through, it will be a major step for the company. Furthermore, it makes sense that the company wants to fund the deal with its cash reserves overseas, which will effectively bring down the cost through tax savings.
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