Investor/ An Insider's guide to the market: Investors in the Irish stock market are currently at the receiving end of a steady flow of corporate news.
Several companies, including Irish Life & Permanent, AIB and Paddy Power, have recently released trading updates and in general there is a very positive tone to the messages emanating from these companies.
In addition the announcement from Grafton Group regarding a takeover of Heiton Group highlights that there is still plenty of scope within the Irish equity market for merger and acquisition activity.
Grafton Group first started to build a stake in its smaller rival in 1999 and has steadily added to its position since then. The consensus was that Grafton acquired the strategic stake in Heiton in order to prevent overseas rivals from gaining a foothold in Ireland through a hostile takeover of Heiton. However, Grafton has now shown its hand and it reveals that the business of acquiring entire businesses really is a long game.
Heiton is the smaller company, reflecting the success that Grafton has had in building up a substantial market position in the UK through some very astute acquisitions. Grafton is now the joint largest builder's merchant in Ireland and the fourth largest in a still fragmented UK market.
In 2004 Grafton is forecast to have revenue of €1,687 million and has a market capitalisation of €1,307 million. In contrast Heiton is capitalised at €331 million with forecast sales of €504 million in 2004. Heiton has only a small presence in the UK and this accounts for much of the difference in the relative size of the two companies.
If the mooted deal were successful the combined group would have a very strong market position in Ireland. Together, Heiton and Grafton would account for approximately 20 per cent of the builder's merchanting market. In the DIY segment, Grafton is estimated to have a market share of 9 per cent through its Woodies chain while Heiton's Atlantic Homecare chain is purported to have a 7.5 per cent market share.
It is clear from this that combining these two companies would lead to a significant increase in market concentration. Nevertheless, the estimated market shares of the combined groups are not large enough to curtail competition in the relevant market segments.
The DIY segment in particular is seeing substantial new investment from a number of companies. For example, Dairygold recently announced that it planned to spend €30 million developing a new chain of branded DIY stores across the country.
Given that Grafton Group already holds a 29 per cent stake in Heiton the odds are high that Grafton will succeed in acquiring its smaller rival. There is a strong commercial logic to the proposed deal and it is likely that the combined group would be able to improve efficiencies. Greater scale could also enhance the capability of the combined group to expand further into the UK .
The chances of a third party emerging with a higher offer for Heiton are low. Therefore, Grafton will have to offer a price that is sufficiently high to persuade the larger institutional shareholders to sell their stakes. Heiton's recent trading report, which was brought forward by two weeks, will have encouraged Heiton shareholders to hold out for a price that is significantly higher than Grafton's opening offer. Heiton reported profits up 25 per cent and it raised its dividend by a robust 23 per cent.
Furthermore, the indications are that current business conditions are very good.
For investors in the overall Irish equity market the Grafton/Heiton story further supports the view that the market is an attractive alternative for investment funds. Corporate activity is generally an indicator of a healthy market as it shows that companies themselves see value in the market.
More specifically, at a sector level the proposed deal suggests that businessmen are still very optimistic regarding the overall building and construction sector of the economy.
It is unlikely that Grafton's management would be attempting to acquire Heiton unless it felt that the sector's short to medium-term prospects are very good.
The intermittent fears expressed by many observers regarding the sustainability of the Irish construction boom has sometimes tended to dampen investor sentiment regarding the market. It is self-evident that shares in building and construction-related companies would be very sensitive to trends in the industry.
What may not be quite so obvious is that the banking sector is also very sensitive to such developments.
Growth in mortgage credit at an annual rate in excess of 20 per cent for several years has boosted Irish banking profits. Furthermore, a very high proportion of overall lending is secured on commercial properties including factories, offices, hotels and pubs.
Despite the growing importance of services and technology-driven enterprise within the Irish economy, it is the case that the litmus test of how well the economy is doing is still provided by activity in the building and construction sectors.
The health of the overall sector also has a big impact on the Irish equity market and in this regard the Grafton/Heiton deal should have a positive impact on overall investor sentiment towards the Irish market.
