Shares in UK and US transport group FirstGroup (LSE: FGP) have jumped in early deals this morning after it emerged last night that private equity group Apollo has approached the firm about a possible takeover.
It seems some traders already knew about the possible deal before the news broke as FirstGroup’s shares jumped 7% in the final few hours of trading yesterday. And even now the cat is out of the bag, I believe the company still looks attractive.
Deal on the cards
According to news reports, FirstGroup’s management rejected Apollo’s bid saying it “fundamentally undervalues” the company. Now that the first shots have been fired, under takeover rules, Apollo has until May 9 to make a firm offer for the business or walk away.
Buying FirstGroup would be far from easy for the private equity firm. Even though shares in the company look dirt cheap, there are political and regulatory issues facing the bus and rail operator, and Apollo would have to gain government approval before transferring the ownership of its rail franchises. There’s also a substantial pension deficit to deal with. A study last year showed FirstGroup had the most substantial pension deficit of any business in the FTSE 250, coming in at a staggering £4bn.
Still, there’s more to the transport operator than its pensions black hole and rail franchises. The group also owns America’s Greyhound bus service and is the largest “provider of student transportation in North America” (school buses). There is a substantial bus operation here in the UK too. Apollo could be trying to make the most of FirstGroup’s UK rail woes to gain control of these more attractive businesses, seeking a breakup and sale of the individual parts once a deal is complete. While such a move may unlock value, analysts at Liberum estimate that the one-off costs from breaking the business up would be “substantial“.
Time to buy?
FirstGroup has been a perennial underperformer since its rights issue in 2013, failing to return to the pre-rights price of 180p. A turnaround had been expected this year, but the firm scuppered this optimistic view in January when it downgraded its annual net profit forecast “slightly” thanks to problems at its US division.
Nevertheless, it looks as if all of the above problems are now reflected in FirstGroup’s valuation. Even after jumping nearly 40% since the end of March, today the stock is trading at an enterprise value-to-earnings before interest tax depreciation and amortisation (EV/EBITDA) figure of 3.5, making it the cheapest in the transport sector and one of the most affordable companies on the London market.
With a book value per share of 156p, the shares are trading at a discount of 29% to the equity value of the business.
Considering these metrics, it could only be a matter of time before Apollo returns with a higher bid, or another potential acquirer comes along to take advantage of the opportunity on offer. With this being the case, I believe that, despite all of FirstGroup’s problems, it could be time to buy the shares after Apollo’s approach.
