Balfour Beatty says Carillion鈥檚 calculation that a merger between the two firms could create 拢1.5bn of added value is 鈥渋ncorrect鈥�
Balfour Beatty has said Carillion鈥檚 calculation that a merger between the two contracting giants could create 拢1.5bn of added value, a key part of Carillion鈥檚 attempts to woo Balfour鈥檚 investors, is 鈥渋ncorrect鈥� and is unlikely to be achieved.
This morning Carillion set out its detailed plans for a merged business combining the two firms which included 拢175m of annual cost savings, which, when capitalised, would add 拢1.5bn to the value of the company combined entity.
Carillion said that should the merger go ahead, it would also seek to downscale Balfour Beatty鈥檚 UK construction business along the lines of its own construction business, which reduced in size by a third in the last three years, and refocus on support services.
Carillion鈥檚 move this morning was designed to tempt Balfour Beatty share holders and force Balfour鈥檚 management back to the negotiating table after two of its merger offers have been rejected.
But in response, Balfour Beatty said this morning that Carillion鈥檚 announcement still 鈥渄id not address significant risks鈥� that it set out when it rejected Carillion鈥檚 second merger proposal on 11 August.
It said: 鈥淭o benchmark a series of theoretical cost reduction opportunities, represent them all as synergies, and further, to represent them as incremental value creation directly arising from the merger proposal is incorrect.鈥�
Balfour Beatty said it had 鈥渟erious reservations as to the achievability of the stated synergy number鈥� and that it came with 鈥渦nacceptable operational and financial risks鈥�.
It added that Carillion鈥檚 business plan had 鈥渟everal key assumptions鈥� that 鈥渟uggest an analysis based on the integration of businesses smaller than Carillion鈥檚, rather than one that is substantially larger鈥�.
It added: 鈥淚n particular, the substantial rescaling - possibly by up to two thirds - in the revenue of Balfour Beatty鈥檚 UK construction business would eliminate future earnings recovery potential. It would also incur cash outflows of many hundreds of millions of pounds of restructuring costs and working capital.鈥�
Repeating one of its criticisms of Carillion鈥檚 plans that it made on Monday, it said Carillion had not provided 鈥渁ny strategic or value related logic鈥� for the retention of Balfour Beatty鈥檚 consultancy arm Parsons Brinckerhoff, which it is in the process of selling.
It added: 鈥淏alfour Beatty has been clear that Parsons Brinckerhoff has not provided synergistic benefits for the group over five years of ownership, and this has not been disputed by Carillion.
鈥淭heir proposed approach would result in the likely termination of the Parsons Brinckerhoff sales process.
鈥淭his risks damage to that business, as well as eroding its competitive position, and potentially resulting in a loss of value to our shareholders.鈥�
It said the board of Balfour Beatty was 鈥渃onfident that pursuing its strong independent strategy based around a recovering UK business, growing US market and significant investments business鈥� was a more attractive option for restoring value to its shareholders.
The City鈥檚 verdict: The deal 鈥榮hould鈥� happen
Joe Brent, analyst of Liberum, said that 鈥渆gos aside鈥� the Carillion and Balfour Beatty merger 鈥渄eal should happen鈥� because the 鈥渟ynergy prize is too big to walk away from鈥�.
He said he thought synergies could be higher than the 拢175m Carillion says it is confident of achieving. 鈥淥ur view is that synergies could be higher than this - perhaps 拢250m - making the economics of a deal difficult to ignore,鈥� he said.
He added: 鈥淗istoric deals would suggest that Carillion typically starts with an initial synergy target of circa 60% of their final objective, which would imply potential synergies of 拢290m.
Olivia Peters, analyst at the Royal Bank of Canada, said the strategy Carillion outlined for a combined business with Balfour Beatty 鈥渟eemed sensible鈥� and that the figure for savings from synergies between the two firms was 鈥渕uch higher than expected鈥�.
Andrew Gibb, analyst at Investec, said Carillion鈥檚 continued desire to retain Parsons Brinckerhoff 鈥� which Balfour is in the process of selling 鈥搘as telling.
He said: 鈥淲e don鈥檛 see Parsons as being in the long-term plans for Carillion. However, it strikes us that the need to retain this business in the short term reflects the group鈥檚 view on the current state of Balfour Beatty鈥檚 construction division and the scale of the task ahead to implement a turnaround.
鈥淭he question for investors now is who is best placed to action this?鈥�
Stephen Rawlinson, analyst at Whitman Howard, said: 鈥淥ur sense is that the [merger] talks had been moving along quite nicely until Carillion realised that the cashflows from Parsons would be needed to fund the debt of the combined entity and possibly that strategically Parsons makes great sense in some territories as part of an integrated offering.
鈥淥ur view is that the level of potential savings could be much higher than indicated and the cost of achieving them much lower but Carillion is being cautious.
Rawlinson said the amount to be saved on an annual basis would be around 50% of the current level of underlying operating profit of the two companies.
Carillion has just reported 拢97m operating profit in the first half of 2014 and Balfour Beatty has promised around 拢150m of operating profit for 2014.
鈥淲e believe that such savings are credible and could be exceeded and are unlikely to be achieved without the two companies coming together,鈥� he said.
鈥淭he opportunity to combine with Balfour Beatty has been on the agenda for some time in Carillion鈥檚 strategy discussions and the timing seems now to be right to move ahead.
鈥淏alfour Beatty on its own seems to have had the chance to get its house in order in the recession but has not succeeded.
鈥淪avings of the levels described are something that Balfour Beatty shareholders cannot ignore as the prospect of another six months without a viable CEO, the debt position worsening and possibly jeopardising operations, and the sale of possibly the best business in the portfolio is not attractive.
鈥淸A] merger with Carillion is not risk free but provides a break with the recent inglorious performance and has no greater risk than going it alone but a much higher level of reward.鈥�
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