Deals

Chris Hughes is a Bloomberg Gadfly columnist covering deals. He previously worked for Reuters Breakingviews, as well as the Financial Times and the Independent newspaper.

Monsanto's rejection of Bayer is about as helpful as a snub can be. Yes, the U.S. seed giant said its German suitor's $62 billion proposal is too low. But it sugared the pill by endorsing the strategic logic of a combination. Here's Monsanto CEO Hugh Grant:

“We believe in the substantial benefits an integrated strategy could provide to growers and broader society, and we have long respected Bayer’s business.” 

That open display of agreement is unusual in contested takeover situations. Coupled with Monsanto taking two weeks to deliberate, it signals a potential willingness to sell. Bayer still faces an uphill struggle to secure a transaction -- not least of which are the regulatory risks, which Monsanto cited in its rejection notice on Tuesday -- but the climb may have just got a little less steep.

Diverging Fortunes
Bayer shares have slid since the company was first reported to be weighing an offer for Monsanto
Source: Bloomberg

Bayer's current pitch to Monsanto shareholders is denominated entirely in cash. In that context, the strategic merits of the combination don't matter to Monsanto shareholders -- strategically sensible or not, the value of the cash offer is fixed. So why does Monsanto dwell on the issue? Partly it may be for the benefit of Monsanto's staff and other stakeholders, who would have to live in some way with the new company. But there may be more to it than that.

Monsanto's endorsement not only gives Bayer an authoritative ally as the German suitor tries to persuade its own shareholders that a takeover makes sense. There's a remote chance it may open the door to Monsanto recommending that its own shareholders take Bayer stock as part payment in a raised offer. This would ease the financing burden for Bayer, meaning the German life-science group could raise its offer without taking on yet more debt or needing to tap its own shareholders for even more equity. The downside for Bayer management is that Monsanto may also be signalling to counter-bidders to step up. Monsanto is also looking for protection from the risk of regulators blocking the deal.

Bayer would be in a real bind if Monsanto had delivered a more assertive rejection. Based on the stated $1.5 billion of annual pre-tax financial benefits, Bayer's proposed deal would struggle to deliver an acceptable return on investment for its shareholders even three years after completion. So Bayer can't justify raising its current proposal unless it can discover additional savings or revenue gains, meaning its only option to proceed with its existing proposal would have been to go hostile.

Seeds of Friendship
A combination of Bayer and Monsanto would create an agricultural giant
Source: Bloomberg
Data reflects Bayer and Monsanto's combined agricultural-related revenue in 2015 and Dow and DuPont's pro-forma agricultural sales, as reported on March 1. Syngenta-ChemChina data is a rough estimate based on Syngenta's 2015 revenue and ChemChina's agrochemical sales in 2013, the latest year for which data is available.

But Bayer would surely prefer a deal that's agreed-upon with Monsanto management. That would help retain Monsanto's staff and smooth the transaction past regulators -- critical given this would be a cross-border transaction in a controversial industry. Securing agreement means a raised offer, which in turn depends on working with Monsanto to unearth more value.

The combination will still be an incredibly tough sell as it's not obvious there is a pre-existing natural shareholder base for a mega-sized agricultural and life-sciences conglomerate. But it looks like Monsanto might just be up for working to create one.

--With assistance from Brooke Sutherland.

This column does not necessarily reflect the opinion of Bloomberg LP and its owners.

To contact the author of this story:
Chris Hughes in London at chughes89@bloomberg.net

To contact the editor responsible for this story:
Beth Williams at bewilliams@bloomberg.net