Fletcher Building’s play for Steel & Tube Holdings is opportunistic but in line with a strategy to chase consolidation in its core New Zealand business, says First NZ Capital.

On Wednesday, Steel & Tube knocked back Fletcher’s non-binding, indicative and confidential offer for $1.70 a share, arguing it “significantly undervalues” the company. However Fletcher said it will continue its pursuit. Steel & Tube last traded up 1.9 percent at $1.59, having jumped 16 percent yesterday. Meanwhile, Fletcher gained 1.1 percent to $6.55. 

“FBU’s recent recapitalisation saw investors give it capacity for M&A again and while FBU has a reset of its own that it is progressing we view a transaction of this type as on strategy, albeit somewhat opportunistic and with a number of hurdles to overcome,” said FNZC analysts Arie Dekker and Grant Lowe in a note.

Fletcher chief executive Ross Taylor said yesterday the merger and acquisition activity is consistent with the five-year strategy announced in June and within its focus on the New Zealand and Australian building products and distribution sectors.

According to FNZC, Steel & Tube and FBU Steel are a similar size and collectively account for more than half the country’s $2 billion to $2.5 billion steel market. 

“While the businesses are of similar sizes and have followed similar ebit trajectories over much of the last 10 years, STU clearly experienced difficulties in the last few years culminating in its recent capital raise and strategy reset,” Dekker and Lowe said. 

Steel & Tube has been under pressure after impairment charges and restructuring costs forced it to raise money at a discount to keep its lenders onside. However, last month it reiterated an expectation for full-year earnings before interest and tax to climb to $25 million in the June 2019 year, up from $16.5 million before one-time costs in June 2018. Ebit is then expected to rise to at least $35 million within three years.

FNZC said while the offer price is being positioned as opportunistic, the implied enterprise value/ebit multiples for FY19 and FY20 are in line with historical trading multiples for Steel & Tube. 

The analysts note that while Fletcher is positive on its ability to secure Commerce Commission approval, “we think it is realistic that this would take some time with recent transactions highlighting this”. They point to protracted decisions in the NZME/Stuff, Sky Network Television/Vodafone and Z Energy/Caltex applications. Of those, just Z Energy’s purchase of Caltex was approved.

FNZC rates Fletcher as ‘underperform’, with a target price of $6.01, underpinned by a positive view on Australia and an assumption for a reversion to mid-cycle activity levels for the key NZ businesses. 

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