Argos accepts Sainsbury's bid

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Argos accepts Sainsbury's bid
With less than a day to go before it had to launch a formal bid or walk away, Sainsbury's (SBRY) has won over the Home Retail (HOME) board. A modest "possible" offer, with a sizeable portion paid in shares, may persuade at least some of those who doubt the supermarket's new strategy, but even once the proceeds from the sale of Homebase plus a final dividend are added on, it's nowhere near the figure hoped for by the Argos owner's army of shareholders.

Sainsbury's, which must firm up its offer within three weeks, will hand over 55p in cash plus 0.321 of its shares for every share in Home Retail, which is essentially high street catalogue chain Argos. With Sainsbury's shares trading at 249p, it's coughing up an equivalent of 135p a share, or £1.1 billion.

For Home Retail shareholders there's also about 25p a share, or £200 million, from the sale of Homebase to Wesfarmers, the Aussie conglomerate which owns DIY chain Bunnings, for £340 million. They'll also get 2.8p in lieu of the final dividend for the year ending 27 February.

Add it all together and the total prize is 162.8p per Home Retail share, worth just over £1.3 billion. That's at the bottom end of the 150-200p range bandied around since Sainsbury's admitted on 6 January that it had made an approach last November.

Then, Home Retail shares were trading at around 105p, and the current deal is 87% higher than the three-and-a-half-year low of 87.2p made mid-December. Given that this bid is also worth the most to Home shareholders since August last year, they may well bite Sainsbury's chief executive Mike Coupe's hand off.

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Broker Haitong Securities said late last week that Coupe is "making a big mistake". We said Sainsbury's "must be mad".

However, both the grocer and Home Retail claim they are convinced the deal will bring big benefits by optimising the firm's retail space, improving delivery infrastructure, and saving money. Half the "synergies" are expected from Argos concessions through rent savings and revenue gains, a third will come from cost cuts and procurement, with the rest from selling Sainsbury's non-food products through Argos.

Sainsbury's thinks a tie-up will boost earnings per share (EPS) in the first full year following completion. In year three it should result in double-digit EPS accretion, low-to-mid-teens return on invested capital, and a £120 million benefit to cash profit (earnings before interest, tax, depreciation and amortisation). To achieve this, it will take about £140 million, plus another £140 million of store fit-out spend.

And the retail team at Investec Securities reckon Home Retail will struggle to get a better deal elsewhere.

"A significant proportion of synergies are tied up within property and so we believe this means there are only a select few with the excess space to unlock these gains," the broker says. "This makes it tougher for either an alternate buyer outside of food retail or Home's management to generate the same returns on a standalone basis."

It cuts its price target from 180p to 160p and its rating from 'buy' to 'hold'.

This article is for information and discussion purposes only and does not form a recommendation to invest or otherwise. The value of an investment may fall. The investments referred to in this article may not be suitable for all investors, and if in doubt, an investor should seek advice from a qualified investment adviser.