10 Nov 2021


Sydney Board recommends takeover offer at $8.75

Back in July, the IFM consortium lobbed a full takeover offer for Sydney Airport (ASX:SYD), Australia’s busiest gateway. With the airport about to change hands, here’s why Montgomery Fund’s retained most of its shareholding in SYD throughout the takeover period to date.

The initial offer price of $8.25 per share represented a 42 per cent premium to the last closing share price of $5.81 per share. While the $5.81 share price appears extremely attractive in hindsight, recall at the time Sydney had just entered into Lockdown 2.0, with the global spread of the Delta variant and its greater transmissibility resulting in a fresh round of uncertainty for all the travel names. Difficult to imagine that in 3 short months, NSW now boasts a double vaccination rate of almost 90 per cent for 16 years and over – from approximately 15 per cent in mid-July, while a return to international travel seems imminent.

I also wrote last week about takeover situations and some of the considerations you should make as an investor.

With the consortium and SYD announcing a Scheme Implementation Deed, it may be worthwhile using the SYD takeover as an illustrative example of a specific takeover situation and the market’s reaction to the bid (as expressed via the share price) and how the Montgomery Funds were positioned during this period.

Initial share price reaction

When the initial indicative, non-binding proposal of $8.25 per share offer was disclosed, the share price jumped approximately 35 per cent to close at $7.78 per share, an approximate 6 per cent discount to the offer price.

Sydney Airport share price

Screen Shot 2021-11-09 at 12.38.16 pm

Source: Bloomberg

Over the next month, the share price would trade between a range of around $7.40 per share to $7.90 per share, as the combination of news-flow, sentiment and broader market moves influenced the price action.

There were a number of factors likely influencing this spread including:

  • Credible bidding consortium – the consortiums’ significant experience with infrastructure investments underpinned the interest in the asset, and its financial firepower reduced the risk of financing risk.
  • The likelihood of a competing offer being assessed as low – partly due to the sheer dollar size of the takeover (approximately $25 billion in equity) requiring a consortium of infrastructure investors for the capital required. There are also foreign ownership and cross ownership laws in place which restrict foreign ownership in Australian airports, which limits the pool of global capital that can participate in the takeover. While we did not completely rule out the potential for a competing proposal, we assessed this likelihood to be low. As other parties joined the consortium (Macquarie Capital as an advisor, Australian Super as an investor), we largely ruled out the likelihood of any competing bid.
  • Time to completion – a takeover via scheme of arrangement usually takes more than 6 months to consummate. Even assuming a takeover offer proceeded at the $8.25 per share price, the expected annualised return would represent approximately 12 per cent, with deal risk on any takeover talks not proceeding.
  • Satisfactory due diligence – which is a standard condition in most takeover offers as companies “open the books”. While not an immaterial risk in many takeover situations, we assessed the risk on negative surprises throughout due diligence as low given the amount of public information available on SYD, as well as the Consortium’s familiarity with airport assets. In fact, we felt this was an area of potential upside surprise given the latent asset value that could be unlocked over time especially in its property portfolio.
  • Regulatory approvals – including FIRB and ACCC approvals, as well as broader shareholder approval. We note some of these approvals remain outstanding, especially the Cross-Ownership restrictions, while the ACCC has already sought submissions for the proposed acquisition. It’s worth noting the airport is a natural monopoly operating under a dual-till regulatory regime, with a different set of considerations when assessing the market impacts of “consolidation”.

The Montgomery Funds positioning

After considering all the above, as well as assessing risk-reward opportunities other than SYD, the Montgomery Funds elected to retain most of its shareholding in SYD throughout the takeover period to date.

The primary reason for holding out was the spread between the share price and the offer price, and our view on the potential for a higher bid given the asset’s quality and scarcity value for investors with a lower cost of capital and a longer-term investment horizon.

However, it’s worth noting the unique situation that SYD (and the company / share price) was in throughout this takeover period.

While the initial takeover offer coincided with the surge in the Delta variant, the longer-term earnings profile was being de-risked over time with i) improved understanding of vaccine boosters shots and their benefits against severe COVID-19 cases mitigates the downside scenario; and more importantly ii) the rate of vaccine roll-out in NSW had greatly accelerated, bringing forward the re-opening of international borders which is critical for SYD’s earnings and resumption of dividends.

This unique situation meant that we viewed the assessed “downside” of any failed takeover bid was diminishing over time as investors would return to the stock for the likely recovery in global travel. It also helped underpin our own internal valuation of the asset as medium-term projections around international and domestic air-travel improved.

As a result, the Montgomery Funds traded some of its position throughout this time, with the shares at times used as a funding source for better perceived opportunities with similar risk characteristics over the medium-term (around 6 months) while also accumulating shares when we assessed the spread to be too high relative to the offer price.

SYD takeover – final stretch?

With SYD having entered into a Scheme Implementation Deed, the share price has risen to around $8.46 per share, with the bid price of $8.75 per share offering a relatively “lower” risk return of around 7 per cent annualised to completion. This spread reflects some conditions outstanding including EU merger clearance, no prescribed occurrence / Material Adverse Change clauses and ACCC / FIRB approval.

Once final approvals are met, the gap between the share price and offer price will likely close further still as more specialist funds join the register. As in the past, the Montgomery Funds will be assessing this risk-return situation versus other opportunities in the market.

You can read my most recent article on Sydney Airport here: Why we chose Sydney Airport as our primary re-opening trade

The Montgomery Funds owns shares in Sydney Airport. This article was prepared 09 November 2021 with the information we have today, and our view may change. It does not constitute formal advice or professional investment advice. If you wish to trade Sydney Airport you should seek financial advice.


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