AGT Food and Ingredients (AGT.TO) – Going Private – 15% Upside

Current Price – C$15.6

Acquisition Price – C$18.0

Upside – 15%

Expiration Date – 5th of February, 2019

Merger Announcement

 

This is management buyout case with 16% spread to the offer price and shareholder vote set for Feb 2019.

AGT Food and Ingredients, a Canadian processor of pulses and other specialty crops, signed agreement to be taken private at C$18/share by buyer’s group including CEO/founder, Fairfax Financial and Point North Capital. The buyer group holds 28% and financing from Fairfax has been secured. Approval by 50% of unaffiliated shareholders is required.

This offer comes at a cyclically low time for AGT as the global oversupply of pulses have strongly affected company’s financial performance. This offer is not new and shareholders had 6 months to get used to this deal and from market’s reactions it seems that at least initially it saw this deal going through.

Involvement and financing by Fairfax Financial gives confidence that the buyers will not walk not away.

Shareholder meeting to vote on the transaction is set at the 5th of February.

Downside to unaffected price: 7%.

 

Offer Timeline and Spread

• 26th Jul – AGT received a non-binding proposal. AGT shares jumped to over C$18 and continued to trade above the offer price till mid September. I am not sure why the company traded above the offer price – either investors were expecting a better eventual acquisition price (company is being acquired at cyclical lows) or simply considered the transaction to be a done deal and added couple more dividend payouts (C$0.15 quarterly) till the final closure.

• 7th Aug – Special Committee was formed.

• 1st Oct – The buyer group reaffirmed their offer, while TD Securities (Canadian corporate and investment bank) advised the special committee that the offer price is fair and is within their estimated range of fair market value of C$17 – C$21. Board issued recommendation to vote in favor of the transaction. AGT share price stood at C$17.7 and remained at similar levels over the next month.

• 12th Nov – AGT released Q3 results which in my opinion were either neutral or positive – revenues stabilized and margins improved both YoY and sequentially, albeit management hinted to continuing tough times ahead. Initial market reaction has also been rather neutral, but over the next few weeks AGT shares dropped below C$15.

• 4th Dec – definitive merger agreement signed. Merger spread narrows to 2%-3%, but then starts widening again bringing us to the current levels.

Market’s reaction to announcements relating to this deal has been really puzzling. With only non-binding offer, no definitive agreement and no financing indications, shares were trading at a premium to the offer price – there seemed to be certainty that either the current offer will close or an even better one will appear. Then later premium changed to a slight discount after the board approved the transaction and financing was secured. And finally, the spread widened to the current 9% after the definitive agreement was signed. The spread seems to be moving in the opposite direction than one would expect.

So far I failed to find any rational explanation for the widening of the spread besides broader stock market sell-off, which is unlikely to affect management’s willingness to buy out the company and should only encourage shareholders to accept the offer. So all positive from my perspective.

 

Buyout at Cyclical Low

 

AGT is in a cyclical agriculture business that is partially driven by commodity prices. The cycles are fairly evident from the AGT share price history as well as gross and operating margins. As can be seen this is not the first time AGT is in a low part of the cycle. This time it is caused by a global oversupply of pulse and according to the management, the situation is reverting back to normal slower than expected.

It seems management is using this opportunity to buyout the company at the levels where it was trading in the beginning of 2014 when  revenues were 30% lower. In a few years (maybe even sooner) situation will improve and with through the cycle margins on current revenue stream company seems appears quite cheap at 10x EBITDA (vs industry average of 13x-14x EBITDA. Moreover, EBITDA and gross profit margins have already improved considerably from the 2017.

 

The Buyers Group

Murad Al-Katib is the CEO and also the founder of AGT. He has been the head of the 7 different companies. Most importantly he has raised AGT into a billion dollar company and has made a relationship with such financial giants as Fairfax, that not only holds some shares of AGT, but in 2017 has provided $190m financing (bought 100 year bonds) and is funding the current deal. The buyer group plans to stay as the shareholders of the private company, which is also a positive sign.

 

Additional Conditions

There are several additional conditions for this deal:

• The entry into of an amended credit facility by Alliance Pulse Processors Inc., a wholly-owned subsidiary of AGT, on the terms and subject to the conditions contemplated by a binding debt commitment letter provided by a syndicate of senior Canadian financial institutions arranged by the Bank of Nova Scotia (the “Debt Financing”) – even though this one is not written in a very understandable manner, I believe this is just one more credit facility amendment of AGT subsidiary APP, which will be easy to achieve as it already has been amended 4 times since 2015 (usually increasing the size of credit facility);

• The holders of AGT’s 5.875% of notes due 2021, which were issued in 2016 for a total amount of C$200m have to tender their Senior Notes for 101% of their price + 0.5% as early participation fee – currently the notes are trading only slightly above the intended 101.5% tender levels and I take it as a positive sign that the tender will close successfully;

• Net debt not exceeding C$520m – as of Q3 net debt stands at C$510m so there is very little room left under this condition. However, keeping in mind that the definitive agreement was signed on the 4th of Dec, the buyer group was clearly aware of these debt levels. So either they expect net debt levels to  decline in Q4 or this condition will be amended to accommodate any increase in indebtedness.