The Motley Fool

Should M2 Group Ltd shareholders celebrate its marriage with Vocus Communications Limited?

Business telecommunications services provider Vocus Communications Limited (ASX: VOC) is capitalising on its record high share price to merge with M2 Group Ltd (ASX: MTU) to create Australia’s fourth largest telco by market capitalisation.

Vocus is committing to swapping 1.625 of its shares for each M2 share in a deal that implies a 25% premium for M2 based on Friday’s closing prices of both stocks.

While that is a decent premium for the stock, M2 shareholders might feel they deserve more given that the stock has fallen 24% over the past three months before today’s bounce and Vocus has jumped 12% after completing the takeover of Amcom Telecommunications Limited.

Vocus has barely had time to catch its breath and bed down the $1.1 billion merger before its engagement with M2 was announced. Was Vocus’ move to merge with M2 more a question of survival?

Perhaps it was done to keep Vocus out of reach of TPG Telecom Ltd (ASX: TPM), which had tried to foil Vocus’ acquisition of Amcom.

The $9 billion market cap TPG could make a play for Vocus down the track after swallowing broadband services provider iiNet Limited last month.

But TPG is unlikely to be able to gain regulatory approval to acquire a merged Vocus and M2 group because the Australian Competition and Consumer Commission (ACCC) has indicated it would take a dim view of any consolidation or collaboration between major broadband providers Telstra Corporation Ltd (ASX: TLS), Optus, TPG and M2.

This means the competition watchdog is unlikely to oppose the merger of Vocus and M2, although M2 shareholders, like myself, would like to see a more generous premium given that Vocus is probably benefiting more from the proposed marriage.

I believe the deal has merit, but I also think M2 can “take it or leave it” as the group has good organic growth potential and there are other acquistions it can find in the fragmented market place.

Remember, M2’s key strength is sales and marketing, not running and building infrastructure like Vocus. M2 will be a very different company if it got hitched with Vocus and deviating from your core competency carries risks.

I am not keen on the deal on the current offer, which implies a price of $10.55 per M2 share. I want to see an offer with an “11”in front of it before I get excited as M2’s fair value is over $11.

On the flipside, some of the touted positives for the deal include:

  • Cost synergies of around $40 million that will come from removing duplication. This synergy will be fully realised in 2017-18.
  • Potentially significant cross-selling opportunities that comes from the group’s combined expertise of marketing and infrastructure operations.
  • Greater reach across consumer, business and government clients in Australia and New Zealand.
  • Combined group revenue of around $1.8 billion and earnings before interest, tax, depreciation and amortisation (EBITDA) of $370 million in 2015-16 even without the synergies outlined above.
  • The size of the combined group will almost certainly see the stock included in the S&P/ASX 100 (Index: ^AXTO) (ASX: XTO), which will be supportive of the share price as it will prompt many large cap funds to buy the stock.

The boards of both companies back the merger and M2 will commission an independent report on whether the deal is in the best interest of shareholders.

Unless major shareholders of either company voice dissent, I think the probability of the merger proceeding is high and I don’t see another bidder emerging for M2 – but one can always hope.

Shares in both companies are in a trading halt this morning.

5 stocks under $5

We hear it over and over from investors, "I wish I had bought Altium or Afterpay when they were first recommended by The Motley Fool. I'd be sitting on a gold mine!" And it's true.

And while Altium and Afterpay have had a good run, we think these 5 other stocks are screaming buys. And you can buy them now for less than $5 a share!

*Extreme Opportunities returns as of June 5th 2020

Motley Fool contributor Brendon Lau owns shares of M2 Group Ltd and TPG Telecom Limited. Follow me on Twitter - https://twitter.com/brenlau

Unless otherwise noted, the author does not have a position in any stocks mentioned by the author in the comments below. The Motley Fool Australia has no position in any of the stocks mentioned. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Bruce Jackson.

Related Articles...