Should you buy ASX shares that are takeover targets?

Takeovers are sweet exits for shareholders. But should you buy into a company hoping for that happy ending?

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Most times it's music to an investor's ears when one of their stocks will be bought out by another company.

The takeover usually involves a purchase price higher than the market price, so there is a handsome profit involved. The buyer is hardly going to low-ball the existing shareholders, otherwise they won't approve the sale.

One recent example on the ASX is Amaysim Australia Ltd (ASX: AYS).

The telecommunications provider is currently in the midst of a takeover from listed investment company WAM Capital Limited (ASX: WAM). WAM offered 70 cents for each Amaysim share in cash or 85.6 cents per share in WAM stock.

This gave Amaysim's shareholders a 15.6% premium to the one-month volume-weighted average price after the end of October.

So should investors try to buy up shares that could become takeover targets?

Takeovers only happen on the way up

Forager chief investment officer Steve Johnson said that cheap stocks often end up with a takeover as the happy ending for investors.

But they rarely happen for companies enduring a difficult time.

"You tend to see them once the business has at least turned around," he said on a Forager video.

"Once it's recovered and the share price is reasonably fair and then someone can pay a sense of premium to that and everyone is happy."

He took advertising agency WPP Aunz Ltd (ASX: WPP) as an example in the Forager Australian Shares Fund (ASX: FOR) portfolio.

WPP AUNZ in December received a buyout offer from its parent WPP PLC (LON: WPP).

"That takeover bid is 70 cents compared to a share price that was down in the 20s back in March, and maybe early 40s when we first bought it."

According to Forager senior analyst Alex Shevelev, the company transformed during the COVID-19 period to improve its performance.

"During calendar 20, the management team was doing some pretty good things to try to get the business back onto even ground. They were cutting costs," he said.

"The parent company that already owned 62% of WPP, of course, was aware of what was going on there and that things were improving. Clearly they felt that was a good opportunity to launch a bid for the remaining portion that they didn't own."

Relying on takeovers for returns: right or wrong?

This is why investors should not be solely relying on the possibility of a takeover for return on investment, according to Johnson.

"If you're relying on them for value realisation then you're in trouble — because it means something else has gone wrong with your investment," he said.

"That's my advice to everyone: Make money and pay dividends, and if we get a takeover then that's the cream on the cake — not the reason that we own the stock."

The next likely ASX takeover 

Shevelev named Eclipx Group Ltd (ASX: ECX) as another company with huge potential for a buyout.

It plays in the car fleet management industry where economies of scale are "very dramatic".

"So if you had an acquisition of this business by one of the other two players… the synergies across that group would be very significant," he said.

"That's coupled with a restriction on the number of deals that can be done here because the industry is getting quite consolidated after a period of mopping up of smaller players."

Johnson agreed that Eclipx is "a good example".

"I think the economic rationale for it in that sector is very significant."

Motley Fool contributor Tony Yoo owns shares of WAM Capital Limited. The Motley Fool Australia has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Bruce Jackson.

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