Clondalkin Group is considered too small, its shares are too illiquid, and privatisation is the only answer, or so the argument goes. And other similar companies may follow this route, a view amply backed up by the rush of MBOs in the UK. Over 60 per cent of all Irish publicly quoted companies have market capitalisations less than Clondalkin's but obviously they are not all queuing up to follow Clondalkin - if they were, less than 30 companies would remain listed, and 10 of those have market capitalisations of less than £500 million, still considered small by some institutional investors.
Clearly liquidity is important and that has been amply demonstrated by the ease with which large blocks of shares can swing in and out of Telecom. And it could be argued that there is little point in having shares if they cannot be sold, or if the sale of a large block can only be made at a large discount to a previously quoted price. However, small market capitalisation companies have played an important role. The better run groups, like Clondalkin, grow both organically and by acquisition. They pay growing dividends and often have loyal followings. In Clondalkin's case, the management team clearly saw an opportunity and seized it. With a share price of €6.12, it was on a low historic p/e of 8.8 and an even lower prospective (1999) p/e of 8.0. The suggested offer price of €9, representing a 47 per cent gain on the last share price, looked attractive. But is it?
A clearer picture will emerge when Clondalkin releases its interim figures possibly this week. But if the group is trading in line with expectations, there will be only modest growth this year. Assuming pre-tax profit rises from €42.1 million in 1998 to €44 million in 1999, the prospective earnings per share would come to 78.3 cents. That would place the €9 offer price on an exit p/e of 11.5. The enterprise (market cap plus debt related to earnings before interest and tax) multiple is about 9. The price/cash flow multiple is 7.5. These multiples indicate that the proposed offer price is reasonable for a company in the out-of-favour print and packaging industry.
However, institutions - they control over 50 per cent of the equity - will note that Clondalkin's shares reached a high of €10 last year. Also, looking beyond 1999, the prospective p/e for 2000 comes down to 10.5, assuming a rise in pre-tax profit to €47 million. That could prompt a counter bid. While that cannot be ruled out, it must only be considered a remote possibility. A counter bid against an MBO would normally pose difficulties for a bidder. This would be particularly true for Clondalkin. The existing team was hand picked by Mr Henry Lund, the chairman, and it probably has a greater cohesiveness than most. Also, the MBO team, headed by chief executive, Mr Norbert McDermott, with 35 managers looks formidable. To be successful, any counter bidder would have to have the blessing of that team.
But the three non-executive directors will have to consider all the options before they voice their opinion of the bid proposals which value the group at around £300 million. What about a takeover of Adare Printing which has said it is not planning an MBO? It is rated at a much lower level than Clondalkin. Prior to the Clondalkin announcement, Adare's shares were on a prospective p/e of only 5.5, reflecting the competitive nature of its business. Maybe that is what institutional shareholders should be pushing for.
But Clondalkin is an ideal vehicle for an MBO. It is in a very strong financial position. Net debt at the end of 1998 amounted to €59 million, giving it a gearing of 48 per cent. Interest payments are well covered at 8 times. More importantly, it generates a lot of cash. Cash flow from operations grew from €43.3 million to €50.3 million and the cash flow per share amounted to €1.20 last year. This has helped it with its expansionary investment programme.
Clondalkin has generated an annual compound growth in earnings of 26 per cent over the past five years. It is now looking for mid-teens growth. The MBO can hardly be justified on poor growth prospects - the poor share rating and the lack of liquidity of the shares, can be the only justification.
