Bayer-Monsanto Deal

Cheap Money, Risky Takeovers

The logo of Bayer AG is pictured at the Bayer Healthcare subgroup production plant in Wuppertal February 24, 2014. REUTERS/Ina Fassbender/File Photo
Bayer's woes could be down to the ECB's policies.
  • Why it matters

    Why it matters

    Bayer’s expensive takeover bid, lampooned by investors, is based on a share price that has been indirectly pumped up by the low interest-rate policies of central banks, the author argues.

  • Facts

    Facts

    • Bayer’s €55-billion bid for Monsanto (€62 billion including debt) is 15.8 times the company’s EBITDA and includes a 36-percent markup over the average share price in the three months prior to announcement of the deal.
    • The European Central Bank in March announced it would start buying corporate bonds to help boost the euro-zone economy.
    • Low bond yields enable Bayer to finance its Monsanto bid. Bayer could issue €20-billion worth of bonds to partially finance the deal and pay €500 million or less in interest.
  • Audio

    Audio

  • Pdf

Market are often brutally simple. The recent dramatic decline in the price of Bayer’s shares shows exactly what investors think of the company’s planned acquisition of U.S. seed producer Monsanto – namely nothing.

After its takeover bid for the controversial producer of genetically-modified plants, the German pharmaceutical giant lost almost €10 billion ($11 billion) in market value.

The investors’ harsh verdict was not a sign of panic but of careful consideration. Experience has shown that the majority of takeovers go wrong, especially when they involve German companies seeking to acquire U.S. competitors.

The data shows that, prior to a mega deal, most companies tend to achieve higher profit increases, are more profitable and provide their shareholders with stronger price gains than after completing a takeover. Besides, the cultural differences are often so great that there is simply no chemistry between management and labor.

Bayer is buying high, and may even increase its offer, in large part because it is supported by the zero interest-rate policy of central banks.

A case in point is the deal between Daimler and Chrysler, arranged in 1998 and dissolved again in 2007, along with the dominant behavior of former Daimler chief executive, Jürgen Schrempp. From the standpoint of the Americans, his behavior was not hands-on and visionary, but rather arrogant and presumptuous.

Another reason investors are reacting so negatively is that the purchase price seems excessive to them. With its bid of €55 billion (€62 billion including debt), Bayer would be paying 15.8 times Monsanto’s earnings before interest, taxes and depreciation (EBITDA). At the same time, Bayer is providing shareholders with 36-percent markup over the average share price in the three months prior to announcement of the deal.

Both the bid and the markup are generous. And Bayer could even improve on this first offer, as evidenced by the hostile position of Monsanto management and the willingness on both sides to continue negotiating.

But the scenario has set off alarm bells with investors. Bayer is buying high, and may even increase its offer, in large part because it is supported by the zero interest-rate policy of central banks in Europe, Japan and the United States.

For years, central banks have pumped a lot of money into the market and, for lack of interest-bearing investments, investors have steered the money primarily in the direction of equities. This led to rapidly rising share prices, including at Monsanto. In other words, Bayer’s purchase offer is based on a share price that has been driven up by the central banks.

In addition, the European Central Bank is helping companies gain access to cheap money by agreeing in March to buy up European corporate bonds. In doing so, it is competing with small investors and insurance companies and pension funds with its billions. This drives up bond listings and, conversely, pushes their yields down to record lows.

Companies that are well-funded, have decent credit ratings and are listed on the blue-chip DAX no longer have to pay annual rates of 4 or 5 percent for their bonds. In fact, yields of less than 1 percent are common today. Assuming that Bayer issues €20-billion worth of bonds to partially finance the Monsanto deal, it will not cost the company about €1 billion, as it would have cost in the past, but probably less than half of that today.

Perhaps it will get even cheaper. As soon as Bayer issues bonds to acquire Monsanto, the European Central Bank will likely act as a buyer. In this way, it is partly financing the Monsanto acquisition. This sounds appealing from Bayer’s perspective, since it affects the bid price and makes such a large deal easier to finance. It is all but guaranteed that the bonds will sell, which is the goal of ECB President Mario Draghi.

The problem is that even with the reduced interest burden, the bond still isn’t paid off. For that to happen, the debt itself actually needs to be retired. Companies, as well as consumers who have plunged into expensive house purchases, have had the same experience. Low borrowing rates for construction loans, often less than 2 percent, are very appealing to consumers at first glance.

The central banks are moving further and further away from the real goal of stimulating the economy with cheap money, and in fact are achieving the opposite effect. With their zero interest-rate policy, they first began driving up the prices of housing and companies, and now they are inducing corporations and consumers to pursue risky takeovers and loans, which they may not have done without the low interest rates.

In this sense, Bayer’s takeover attempt is a lesson in how the wrong monetary policy and misdirected capital work. Fortunately, many investors recognize this and are selling their Bayer shares. It’s a clear vote against overpriced acquisitions, for which central banks are partially responsible by inflating prices in financial markets.

 

To reach the author: sommer@handelsblatt.com

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