The art of being earnings accretive

November 28, 2019

by Rob Zdravevski


I just love the deal made by Bernard Arnault and LVMH in buying Tiffany.

The sales pitch LVMH gave Tiffany was;

  • a 32% premium to its previous close (the price was revised upwards, twice)
  • An all cash deal from the world’s largest luxury brand house with a market cap of $200 billion run and controlled by the world’s 2nd or 3rd richest individual.
  • and we are “offering Tiffany time and money”, to get away from the burden of quarterly reporting spare Tiffany from the demands of quarterly reporting and invest over the long term.

LVMH’s chief financial officer Jean-Jacques Guiony went further on to say, “We expect to bring Tiffany time and capital, which are two things that aren’t easy to get when you’re quarterly reporting to the stock market”.

In essence, the deal is basically a “private equity” style acquisition conducted by a publicly listed company.

“The deal underlines the growing firepower of LVMH, which generated €46.8bn in sales and €5.5bn in free cash flow last year. After its shares rose 60 per cent this year, it now has a market value of more than €200bn”, the Financial Times commented.

LVMH will not issue or use its own stock to pay for the acquisition.

Instead, they will issue their own LVMH debt to pay for Tiffany’s. With their A+ credit rating, LVMH will be able to more or less be its own price maker of the coupon rather than market dictating so.

Companies often offer their stock to pay for acquisitions when they believe they can use their inflated and expensive shares as currency.

In LVMH’s case, it’s the opposite. This tells me so many things about management’s opinion of the company’s prospects.

They’re not using their stock as its too valuable to give away to Tiffany shareholders. Why give away something of value when debt (cash) is cheap? Why dilute the equity holders?

It’s a very clever and logical decision.

Interestingly, LVMH had already prepared and submitted a “Base Prospectus” in July 2019 for issuance of debt notes for an amount up to EUR 20 billion.

Tiffany’s US$16.6bn purchase price will equal EUR 18.3 billon and if they add advisor fees of let’s say EUR 400 million and they’ll close it for under EUR 19 billion.

They should likely offer 5 year paper with a coupon of 0.50%, which is a generous 90 basis points above the EUR 5 year Euro Government bonds (which are currently trading at negative 0.40%) and LVMH could possibly even rank the debt as unsubordinated.

Of Tiffany’s $4.2 billion revenue, they tend to produce (a normalised “undisturbed”) free cash flow amounting $300 million annually.

So, EUR 19 billion debt will cost LVMH EUR 95 million in interest per annum which easily covered by Tiffany’s free cash flow, let alone that LVMH have said that they expect the TIffany’s acquisition to become earnings accretive to the tune of EUR 500 – 600 million by 2020. That’s operating profit, not cash flow and we are talking about a year away.

Bien joué Monsieur Arnault

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