Frutarom sold too soon

Yaniv Pagot

Postponement of the company's sale could have generated a substantially higher price tag for the shareholders.

Today's announcement by Frutarom Industries Ltd. (TASE: FRUT; LSE:FRUT; OTCBB:FRUTF) that it intends to sell its shares to competitor IFF is bittersweet news for the company's minority shareholders.

The tendency in such situations is to count the money in the controlling shareholders' bulging pockets, inhale the sweet scent of the achievements of Israeli brainpower, and estimate how much money the state treasury will accumulate as a result of the exit. My feeling upon learning of the deal, however, is that the sale is premature.

The way I see it, there is no cause for a celebration like that for Israel's 70th anniversary; it's a holiday only for Frutarom's no longer young controlling shareholder and his heirs, whoever they may be, because the minority investors could have sold their shares in the company at any time, but preferred not to do so, despite the tempting pricing.

Frutarom is a company that made hay for many years and generated enormous value for all of its shareholders, thanks to extraordinary management that for years balanced internal growth, external growth, and its regular financial results. I took my hat off to them in the past, and I take it off now for the last time. The company made an mind-boggling 71 acquisitions over the years, 33 since the beginning of 2015, and 14 since the beginning of 2017.

Frutarom's success in mergers and acquisitions is absolutely unique for an Israeli company. The decision to sell the company at the current time leads to the conclusion that Frutarom's leadership grew weary of the frantic pace and decided to pass the managerial baton to the US. The strategic misstep by Teva Pharmaceutical Industries Ltd. (NYSE: TEVA; TASE: TEVA) left Frutarom as one of the outstanding global industrial companies on the TASE in recent years, if not the most prominent of them. Its disappearance from the scene is therefore a pure loss for the local stock exchange.

Frutarom's well-known strategic plan was to achieve $2.25 billion in sales and $500 million in EBITDA by 2020, compared with $1.36 billion in sales and $267 million in EBITDA in 2017.

In view of the sales multiples at which the current deal is taking place and other recent deals in the sector, postponement of the company's sale to a later date in the not-too-distant future could have generated a substantially higher price tag for the shareholders.

Frutarom's $517 million debt is only 1.85 times its EBITDA in 2017, so the company had the financial flexibility needed to financing the continuation of its phenomenal acquisitions campaign of many years' standing without taking excessive leverage upon itself a la Teva.

IFF itself is paying for the acquisition of Frutarom through a large stock and debt offering and a share swap. These financial tools were available to Frutarom's board of directors for expansion, but the board decided that it was best at this point in time to cash in their chips and rake in the enormous profits generated by the steep rise in value in recent years, instead of continuing the company's magical path of global growth.

The timing of Frutarom's sale is particularly grating in view of the company's conference call in late March 2018, close to the publication date for its yearly financial statements, in which its executives, headed by CEO Ori Yehudai, expressed great optimism about the business opportunities facing the company. It is therefore unclear why the board was in such a hurry to sell now, a sale that would have been logical had the Frutarom board, not really believing the company capable of achieving its multi-year targets, been fearful of the coming challenges.

The Israeli economy is losing a managerial flagship that operates in global markets and constitutes an incubator for the generating of economic value and raising industrial managers with a global orientation. In view of the built-in exit tendency among many Israeli entrepreneurs, the likelihood of creating an Israeli-made giant global company is becoming lower every year.

The fact that IFF will be listed for trading on the TASE is insignificant in comparison with the fact that Frutarom will be delisted, because two thirds of the proceeds from the sale will be in cash and only one third in IFF shares. An Israeli investor who wanted to buy IDFF shares could have done so even before.

Investors in Israel who put their trust in the outstanding management of Ori Yehudai will be in no hurry to jump on the new bandwagon, despite the fact that the deal will create a global market leader. Furthermore, experience shows that global companies that were listed for trading on the TASE as a result of a merger or acquisition later did an about-face and delisted their shares from the local exchange, due to the excessive regulatory burden and the TASE's modest trading volumes, without creating much value for local investors.

IFF is a large and impressive veteran company, but its projected top and bottom line growth rates as reported by Frutarom before the acquisition were 6-8%, and the company's share is traded at a multiple of 23 on its projected 2018 profit. IFF reported 3% growth to $537 million in operating profit in 2017, even though acquisitions contributed 5% to its revenue line last year, so the company's business momentum is completely different from the value package created by Frutarom for its investors.

Another interesting item in IFF's balance sheet is intangible assets and goodwill, which totaled $1.57 billion, in comparison with $1.69 billion in shareholders' equity, even before the acquisition of Frutarom, which also has $830 million in intangible assets, close to the value of its shareholders' equity. This high level of intangible assets and goodwill, which is built on a history of acquisitions, is liable to be written down under a scenario of a difficult merger. One should therefore think twice before replacing the winning horse named Frutarom now withdrawing from the scene with the old galloping horse, and not automatically swap the cash proceeds for shares.

Published by Globes [online], Israel business news - www.globes-online.com - on May 7, 2018

© Copyright of Globes Publisher Itonut (1983) Ltd. 2018

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