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SSR takeover targets – Reckon, iiNet and NIB Holdings

Investment bankers are notorious for predicting a boom in corporate activity. For once, they might be right. Talk of a record year for Initial Public Offerings is well grounded, with several multi-billion-dollar offers on their way. And mergers and acquisitions (M&A) activity is finally heating up.

Investors who seek quality companies with takeover appeal must also identify a catalyst for M&A. Stocks are often touted as perennial takeover targets on the basis that they are undervalued. That is too simplistic. More important is understanding a trigger for a predator to pounce, and to pay way above the odds because the target company has significant strategic value that is hard to replicate.

Below are six takeover targets:

1. Perseus Mining
Australian gold explorers and producers working in Ghana, Burkina Faso and other parts of West Africa boomed in 2010 as the market leapt on giant minerals discoveries and the rallying gold price. They just as quickly crashed when the gold price tumbled, fears of sovereign risk intensified, and resource stocks generally were dumped.

More consolidation of West African gold companies looks inevitable. Centamin West Africa Holdings’ takeover of Ampella Mining, a one-time star gold explorer, and other takeovers of West African gold companies in the past year, is a sign of things to come.

Perseus has had operational problems, most recently a fire at its flagship Edikan Gold Mine in Ghana, but remains the best-quality Australian-owned producer in West Africa. It has slumped from $3.50 in May 2011 to 34 cents.

Perseus still has 7.1 million ounces of measured and indicated mineral resources that comply with the JORC Code, has been in commercial operation in Ghana since January 2012, and has forecast gold production of 230,000 ounces annually for 10 years.

With the top 20 shareholders owning 40% of Perseus, the register is open for a global gold producer that could add the company to its portfolio. Good judges, such as Paradice Investment Management, have bought more shares this year. A bigger predator might find Perseus’ resource base attractive, as it rides out the lower gold price.

2. Reckon Group
The well-run accounting software group has formidable local competitors: the fast-growing Xero that is targeting cloud-based computing, MYOB, and US accounting software giant, Intuit.

If accounting software evolves like other technology industries, it could eventually boil down to two big players: a market leader that has a significant gap over the number-two player, and is light years in front of the third. I cannot see four players slugging it out in Australian accounting software industry as technology reshapes it – over a long period.

More likely is the smallest of the four, Reckon, joining forces with a larger rival. Reckon has an excellent brand, good products, and a sticky client base that would have significant strategic appeal to a larger rival. It also has an open share register, and is a stock you would be happy to own, preferably at a slightly lower price, regardless of takeover. Reckon is one of the market’s higher-quality small-cap companies.

3. Automotive Holdings Group
The fast-growing car dealership would fit neatly with fellow dealership AP Eagers, and would be unlikely to go without a decent fight. AP Eagers owned almost 18% of Automotive Holdings at April 2014, according to Morningstar data.

Automotive Holdings, Australia’s largest car dealership, has been busy raising funds through an oversubscribed $115 million placement in March 2014, and expanding the business with its own acquisitions – an oft-used tactic to make it harder for predators.

Takeover speculation about Automotive Holdings has been rife since 2012. AP Eagers argued its stake in Automotive Holdings was simply a strategic investment that provided exposure to the West Australia market. The car dealership market in Australia is highly fragmented, meaning both companies have plenty of scope for growth by acquisition.

But a merger of the two key players, and greater scale in the car dealership market, makes plenty of sense. It looks more a question of when, rather than if.

4. iiNet
It is hard to think of a more impressive sector than telecommunications in the last few years. TPG Telecom, iiNet, and M2 Group have spearheaded booming share-price gains for second-tier telcos.

Most M&A activity in the sector has been mid-sized players acquiring smaller fry: M2 buying iPrimus and Dodo, for example. Consolidation among larger players seems inevitable as mid-size companies join forces to improve scale and better compete with industry giants such as Telstra.

Like Reckon, iiNet is an impressive company that investors would be happy to own, regardless of takeover. It is not cheap: few telcos are, after stellar gains in the past few years. But iiNet has excellent growth prospects, and a suitor would have to pay up for a business of its quality.

iiNet announced in April that it will use a $350 million war chest to acquire media and internet companies – a move that will make it harder to take over, although chairman Michael Smith emphasised it was about making iiNet’s operations more diverse and valuable.

With founder and long-time CEO Michael Malone stepping down, the path looks clearer for a predator – my money is on TPG Telecom – to move in.

5. NIB Holdings
A possible $4 billion IPO of Medibank Private in FY15 will surely put the blowtorch on other listed health insurers. Scale will be increasingly important as an ageing population pressures the health insurance sector.

As in the telecommunications sector, fast-growing health insurers will need more size to take on industry incumbent Medibank. Smaller providers that can add significant customer numbers to larger insurers will be in demand.

The well-performing NIB Holdings looks an obvious target for a larger health insurer. It has a good brand, solid market position, and rising return on equity.

Although not cheap, NIB Holdings, like iiNet and Reckon, is a quality mid-cap stock for portfolios. Its takeover appeal, well known to the market, should ensure solid interest in the stock this year.

6. iCars Asia and iProperty Group
Middle-class consumers in Asia-Pacific (households with daily spending of US$10-US$100) are estimated to grow from about half a billion in 2009 to 3.2 billion in 2030, according to research cited in the former Federal Government’s Australia in the Asian Century white paper, released last year.

If that forecast is even half-correct, Australian companies will need to quickly build a much bigger foothold in Asia, and buying entrepreneurial ventures to do so is an option.

A logical takeover candidate is iCars Asia, an early-stage venture that is trying to become the Carsales.com.au of South East Asia. Carsales is an obvious buyer, and already has a 20% stake in iCar.

I have followed iCar closely since it listed in September 2012, and kept an eye on other listed companies in the Catcha Group stable: the more established iProperty Group, and the recent listed iBuy Group. Catch Group’s chairman, Patrick Grove, clearly has knack for developing early-stage ventures in emerging markets, and attracting strategic investors. Like all good young entrepreneurs, he is setting the ventures up to be bought out by larger players.

iCars’ sister company, iProperty Group, aiming to be the realestate.com.au of Asia, also has significant strategic value to a larger property advertising company. As an early-stage loss-making venture, iCars is speculative.

iProperty soared from 75 cents in mid-2013 to a 52-week high of $4.04. Now at $2.67, it is among the pricier internet-related stocks. Further share-price weakness is a good bet if the recent rout in global technology stocks continues. That could put iProperty on the radar of a bigger player, provided a few key shareholders on its register are willing to take on a strategic investor.

Watch and wait for better value, mindful that iProperty is a riskier stock, albeit with a valuable foothold in Asia and of significant strategic interest to a larger property player. If iCars and iProperty can do nearly as well as their Australian internet rivals – in a market the size of Asia – they will be worth a lot more than their current valuations to a suitor.

– Tony Featherstone is a former managing editor of BRW and Shares magazines. This column does not imply stock recommendations.

Important: This content has been prepared without taking account of the objectives, financial situation or needs of any particular individual. It does not constitute formal advice. Consider the appropriateness of the information in regards to your circumstances.

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