A highly improbable deal

By P Gunasegaram, The Star

IT’S all about price really. If indeed there is a proposal to buy CIMB Group Holdings Bhd by RHB Capital Bhd – RHB Cap has just about denied that it has any such intentions – then it has to pay the right price to get enough acceptances.

But at that kind of right price, it may take a while before additional value can be created over and above RHB Cap and CIMB on a standalone basis, if it is likely that can be done in the first place at all.

Also, give a thought to what will happen to RHB Cap’s share price if it undertakes gobbling up a banking group three times its size at a much higher relative valuation compared to its own valuation, both in terms of price-to-book value and price to net earnings.

Without a doubt, RHB Cap’s earnings on a per share basis will take a tumble for the worse while its price-to-book value will rise making it less attractive to potential investors.

Add in a price discount for uncertainty over whether the acquisition will work, and you have a recipe for disaster, at least as far as short-term price is concerned. That throws a massive spanner into the works because shareholders won’t be very interested in subscribing for new shares when the price outlook is poor.

The Employees Provident Fund or EPF, the largest single shareholder of RHB Cap with a 45% stake will not be able to explain to its millions of members why it chose to subscribe to a rights issue or agreed to take up the rights shares that other shareholders did not want.

At this stage, it is most probable that there is a merger proposal out there which calls for RHB Cap to make a bid for all of CIMB via a cash offer or a combination of cash and shares at 2.65 times its book value. Strangely RHB Cap itself appears unaware of the deal.

Nevertheless it is speculated that such a proposal has been floated to effect a merger between RHB Cap and CIMB. CIMB and Malayan Banking had earlier announced that they are not proceeding with a takeover of RHB Cap because the benchmark price had got too expensive.

As the two banks were contemplating a possible takeover, RHB Cap’s other major shareholder Abu Dhabi Commercial Bank (ADCB) announced last month that it was selling its stake to sister company Aabar Investments PJS for RM10.80 per share or RM5.9bil. That works out to 2.25 times book value, a figure neither CIMB nor Malayan Banking were willing to pay for RHB Cap.

RHB Cap’s share price fell below RM9 after the two banks walked away from any potential takeover of the banking group when they considered the reference price of RM10.80 per share, which valued the whole of RHB Cap at RM23.6bil, too rich.

Now the latest proposal, intentionally or otherwise, has created another merger buzz but try as you might, it is difficult to see how the deal can be done. CIMB’s market value now is around RM66bil. A deal to have a good chance for CIMB’s demanding shareholders to accept will have to give a good premium over market value.

Put that premium at 20%, and you will have a takeover value of almost RM80bil for CIMB and an acquisition price-to-book value of three times. With that kind of figures, the new RHB Cap’s earnings per share is likely to be significantly diluted.

RHB Cap, under that elusive proposal, is likely to depend on its major shareholders EPF and Aabar to raise the cash in exchange for additional shares in RHB Cap but for both of them, it is unlikely that such a situation is tenable when the market is likely to downgrade RHB Cap and for the share price to fall.

EPF will be hard put to explain to its nearly 13 million members, who include most of Malaysia’s workforce, why there is a need to spend so much money and incur extra risk to enable RHB Cap to buy CIMB. If EPF wanted CIMB that badly, all it has to do is to simply buy more shares on the market.

Indeed EPF is the second largest shareholder of CIMB with an 11.6% stake while Khazanah Nasional Bhd is the largest with 28.6%.

The best thing for RHB Cap to do under the circumstances is to improve its operations further and make itself even more attractive as a merger and takeover target. Taking on too much can cause severe indigestion or worse – pythons have been known to die when they swallowed a prey that was too big for them.

For EPF, an accident of fate and the need to protect their investment value, brought them a majority stake of 82% in RHB Capital which they whittled down by a sale of a 25% stake to the Abu Dhabi investors and other disposals.

They have made good profits on their RHB Cap stake but it is best not to tempt fate. It is time for them to cut their stakes in RHB Cap, and for that matter any other major stakes they have in other companies, even further.

That will stop their involvement in the management of these companies altogether, leaving this to professional managers instead. That ensures that EPF is singularly focused on managing the money of its nearly 13 million investors prudently and with a proper balance between risk and return considering that these are retirement funds that are being invested.

As it is, market players accuse EPF of channelling unfairly to RHB Cap a huge chunk of its own business such as trading in shares and bonds, fund management and corporate banking. Divesting its stake in RHB Cap further and withdrawing from any kind of management participation will enable EPF to keep all choices open when deciding on services.

What then does this proposal mean? Is it trial balloon to float an idea? Or is it bait on a hook to see if someone will bite? But for now it looks like in its current form it has little chance of success.