Seeking Alpha

AGL Energy Is Likely To Walk Away From Vocus Communications

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Includes: AGLNF, AGLNY, AGLXY, EQT, VCMMF
by: Special Situation Investor
Summary

Vocus has received a non binding offer from AGL priced at A$4.85/share.

It is valued at 11x EV/Ebitda vs 6.5x peer average.

Three other buyers have already walked away.

Current price: A$4.3/share

Offer: A$4.85/share

Spread: 13%

4th largest Australian telecommunications company Vocus (OTC:VCMMF) has received a non-binding offer priced at A$4.85/share from one of the Australia's largest energy providers AGL Energy (OTCPK:AGLNF). The buyer has been granted a four weeks' due diligence after which a binding offer may be announced. The price is expensive, but the upside reflects market's precaution as three other buyers have already walked away (here and here) after due diligence. From valuation perspective the price also looks quite expensive. All in all, I don't see any strong arguments on why AGL should not walk away like 3 other buyers did (by the way 2 of them walked away with a significantly lower price).

Background

For a short introduction - Vocus currently operates in 3 segments:

  • Vocus Networks (enterprise, government & wholesale), which includes infrastructure assets, fibre, ethernet, IP transit, voice data etc.

  • Consumer or retail.

  • New Zealand.

Infrastructure assets (32800 km) are their main asset and comprise 62% of Vocus' revenues.

Timeline:

2015-2016: Vocus mergers with 3 companies: Amcom (A$1.2bn deal), M2 Group (A$3.8bn) and finally Nextgen ($807m). Becomes 4th largest telecommunications company in Australia. M2 was probably the worst deal here as it operated mostly in retail sector and its underwhelming performance, low margins and falling market is still dragging Vocus down. After the merge there was also some quarrels in the management as the previous Vocus CEO has tried to drive out leading previous M2 management, but eventually was voted down and had to resign.

2016 November: First profit warning. Share price has dropped over 20%.

2017 May: Second profit warning. The performance again was significantly lower than the guidance, however the management didn't say a word about it to the shareholders for about 5 months. For this, they the company has recently got a class actions suit as well. Overall, share price has fallen from A$9/share to A$2.43/share in half a year.

2017 June: Private equity bidders KKR and Affinity have emerged with the price of A$3.5/share. Both have gotten the due diligence

2017 August: Third profit warning is issued and four days after both bidders walk away.

Since then in 2018 the company has entered into two-three year turnaround plan, changed the management etc.

2019 April: The company gets class action suit for hiding the bad performance from the shareholders in 2017.

2019 May 27th: EQT comes up with a non-binding offer of A$5.25/share.

May 31st: AGL showed interest, but the companies were not able to agree on due diligence terms.

June 4th: EQT walks away.

June 11th: AGL comes up with a non-binding proposal of A$4.85 and gets access to due diligence.

Valuation

First of all, the current offer prices of EQT and AGL proposals are quite high. EQT's was valued at about 12x EV/Ebitda, while AGL's at about 11x. That is versus 6.5x average peers valuation.

A$bn

Revenues

EBITDA

EV

MC

Net debt

EV/EBITDA

EV/REV

Vocus

1.9

0.366

4

3 (AGL offer)

1

10.9

2.1

Telstra

29

10.1

58.08

43.4

14.68

5.8

2.0

Hutchison/Vodafone

1.9

0.551

1.99

1.76

0.23

3.6

1.0

Macquarie

0.233

0.048

0.39

0.42

−0.03

8.1

1.7

TPG

2.5

0.841

7.066

5.8

1.266

8.4

2.8

Average

6.5

1.9

In 2017 KKR's and Affinity's A$3.5/share proposal was valued at about 7.6x vs. 6.6x peer average. So why would somebody want to pay now almost 50% more than 2 years ago? I haven't been able to answer that question.

On one hand, Vocus performance is stabilizing and recently for the first time in these years, the company has reiterated its EBITDA guidance. On the other hand:

  • In regards to the new assets, it has built new 4600k km Australian Singapore cable, which increased their infrastructure assets by 16% (km). However, its value at cost is about A$200m, while AGL wants to pay A$1.2bn more for Vocus than the offer KKR and Affinity have walked away from two years ago.

  • It has also got a contract for 4700k km Coral Sea cable, but only for building it (the cable won't be a Vocus' asset).

  • Its main segment - Vocus Networks has shown growth - from 2017 to 2018 EBITDA has increased by 15%, revenues - 11%. 2019 H1 YoY revenues increased by 27% and ebitda by 3%. In the upcoming 5 years, Vocus plans to double the revenues in this segment. Despite that, most of this growth has been from their Coral Sea cable contract (A$70m), which is a one off thing.

  • If Vocus' margins were low, the buyer could raise them and profit from that. However, the margins are lackluster only in the struggling consumer segment and even if they were raised it would raise Ebitda only about A$90m and its EV/Ebitda valuation would still be the highest among peers.

Ebitda Margin

TPG

Vocus

Consumer segment

29%

13%

Corporate

44%

46.2%

  • Potential ACCC (Australian competition regulator) problems, as Vocus has a portion of utility assets as well. Reportedly it has only 1% of the market share, but it appears that "ACCC has been vocal on concentration in energy markets" and it may be a hurdle.

So this acquisition by AGL definitely looks strange to me. If they are doing it for the utility assets - there is a risk that they won't be able to retain it and in regards to business diversification - it's not like AGL is buying random companies at high prices. So all in all, I won't be surprised if AGL this deal doesn't go anywhere further than the non-binding offer.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

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