Shares in small-cap insurer Tower Limited (Australia) (ASX: TWR) have leapt 43% today, after the company first entered a trading halt and subsequently announced a takeover offer from Canadian company Fairfax Financial Holdings ("Fairfax").
Fairfax has offered to acquire Tower for a cash proposal of NZ$1.17 per share, a 47% premium to the company's Volume-Weighted Average Price (VWAP) over the past three months. The board has unanimously recommended the proposal in the absence of a superior offer.
Shareholders do not have to take any action just yet, and there will be a special meeting of shareholders in April in order to vote on the takeover.
The takeover must be approved by more than 50% of total voting rights of the company. So far, two significant shareholders, Salt Funds Management and Accident Compensation Corporation (ACC) (which hold a combined 18.1% of the company) have given a firm indication that they will vote in favour of the proposal.
A good deal for shareholders?
To my mind, the takeover bid materially undervalues Tower. The biggest indication of this is Fairfax's (a large Canadian insurer) assertion that it will keep CEO Richard Harding running the business. Fairfax does not have a significant presence in the NZ/ Pacific Island region, and thus is not looking to assimilate a small competitor into its own larger organisation. Rather, it is seeking a platform to grow and expand in the region, and Tower is in a good position to do that. I think it is a great opportunity for the buyer, but not so much for the sellers (Tower shareholders).
Tower earned NZ$20 million in underlying profit last year, meaning that today's takeover bid values the company at about 10 times last year's earnings. However, as I noted in my coverage of Tower's results, the company has a large amount of low-hanging fruit that it can pick to improve its operations. This chart in particular appears to show a turnaround in the NZ business that began under Richard Harding:
There are many things that can affect underlying profit, but the positive signs are all there – improving customer retention, solid premium growth, a good balance sheet with NZ$0.96 in Net Tangible Assets (NTA) per share, predominantly cash and investments, as of 30 September 2016 (this is pre-Kaikoura earthquake).
Tower also temporarily suspended its dividend while it planned the proposed formation of 'Run-Off Co', and the new owner will soon be in line for something like a 7% dividend at today's prices.
Now what?
The one positive to the takeover offer is that it ameliorates the uncertainty of the proposed capital raising and formation of Run-Off Co, which will now not occur unless the takeover falls through. That means that investors don't have to deal with a capital raising and the hard-to-quantify Canterbury liabilities. In my opinion, investors who are deeply uncomfortable with the Canterbury liabilities could consider taking advantage of the bid, and selling their shares today for close to the takeover price of $1.17.
However, in the main, I think that Tower's board and major shareholders Salt Funds and ACC have been too quick to fold their hand on this one, especially with Tower's experienced management team and a clear strategy for delivering improved performance.
My previous estimate of Tower's value (pre-Kaikoura earthquake) suggested it was worth around NZ$1.30 per share in the short term, and I note that a takeover bid at NZ$1.26 per share was rejected by Tower in August last year.
At the time, Chairman Michael Stiassny warned shareholders of the possibility of further 'low ball' offers. Admittedly this was in reference to a takeover offer that was lower than the then current share price, but to my mind it has not been adequately explained why a NZ$1.17 offer today is better than a NZ$1.26 offer in August last year – especially since the company's underlying results have improved since then.
Shareholders also miss out on their final dividend due to its suspension – further benefiting the buyer, and Tower was not exactly expensive to begin with.
I'm not convinced today's offer is the best solution for Tower shareholders, and will be voting against it.
