Does the Pru's big buy present buying opportunities elsewhere?
News that Prudential (LSE: PRU) in advanced talks to buy one of Asia's biggest insurance firms, AIA, for a whopping £23bn has given the insurance sector the collywobbles today. At the time of writing, the move has shaved 85p (almost 15%) off the Pru's share price, after it was briefly suspended, dragging down Aviva (LSE: AV), Legal & General (LSE: LGEN) and Standard Life (LSE: SL) with it.
If the purchase comes off, it will be the largest ever overseas purchase by a UK company. The Pru reckons the potential deal presents a "compelling" chance to create South East Asia's leading insurer.
The Pru is expected to pay around $25bn in cash and $10bn in shares and other securities such as preferred stocks and options for AIA. The cash is expected to come from a $20bn fully underwritten rights issue which could be the biggest in UK corporate history -- hence the punishment of the share price.
Big deal
The deal will be structured as an acquisition of both Prudential and AIA by a new company, to be known initially as "New Prudential" -- which will trade on both the London Stock Exchange and, via American depositary receipts, on the New York Stock Exchange. The Pru says the deal will make it a market leader in seven Asian markets.
AIA's current owner AIG will also receive 10.5bn shares in the new company, which will be led by Tidjane Thiam, the chief executive of Prudential, and run by the existing board. The agreed price represents a multiple of 1.7 times embedded value -- an insurance industry measure of future revenues. It is expected to generate $340m of cost savings during the next three years.
The news came on the day the insurer announced its results for 2009, which are bullish, showing new business profit up 34%, operating profit based on longer-term investment returns up 8% and shareholders' funds of £15.3bn, equivalent to 603p per share – vs. the current price of 530p.
Value elsewhere
Quite whether the deal will come off and whether it will prove to be a shrewd one is causing a bit of a frenzy in the market today. Big acquisitions are so often the enemy of value in the long run. Of more interest for the value hunter is the fact that the move has dragged others down with it, today, which are innocent of any value crime. This is classic contrarian buying territory on news which is only partially related.
Best of the bunch for my money is Aviva which is down by over 5% at 370p at the time of writing. Insurers are complicated beasts for us mere mortals to get to grips with -- which is cause enough for nervousness. But at face value, the UK's largest insurer (second by market capitalisation) looks too cheap.
The reasons it does so were expertly explained by Stephen Bland at Christmas when the share price stood over 20p higher. Since then, the concrete news we've had is of an acquisition in the US and the results for the final quarter which were upbeat despite a 14% fall in life and pensions new business sales compared with the previous year. The company said the worst of the downturn in quarterly sales looks like it's over. Life and pensions sales were up 21% on the third quarter -- 17% in the UK, 39% in Europe and 45% in the U.S.
Bargain basement?
What that leaves us with at today's bargain price is a forward yield of 6.5%, a forward price-to-earnings ratio of less than six, with a strong balance sheet. We'll find out more on Thursday when the final results are due to be released, but they'd have to surprise us a lot on the downside for the shares not to look too cheap.
In other words, the fall looks far more to do with sentiment than reality. This is where private investors with a view to the long term can so often benefit. There aren't many places you can find this kind of potential yield on an investment, let alone on such a low rating. And we have the Pru to thank for the opportunity.
More from David Holding:
David owns shares in Aviva
