Industrials

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.

The ambition to create a French one-stop shop for aircraft propulsion and toilets is boundless. Undeterred by a profit warning from Zodiac Aerospace last month, its 11th in about three years, engine maker Safran SA is pressing on with its planned takeover of the troubled airline-interiors company.

The revised offer hasn't changed much where it counts. But at least Safran shareholders will now get a vote on this expensive deal.

To the Stars and Back
Zodiac shares nosedived weeks after Safran's first takeover proposal in mid -January
Source: Bloomberg

Back in January, Safran proposed a cash offer at 29.47 euros ($32.93) a share for a controlling stake in Zodiac, with a subsequent all-stock merger for the rest. The structure saved Zodiac's core shareholders wealth and capital gains taxes. The two-stage process also meant Safran investors didn't get a vote on the transaction as whole.

Safran is now proposing 25 euros a share in cash, with a preferred-share alternative. The new price and structure spares core shareholders the capital gains tax, but not the wealth levy. Essentially, fewer fiscal perks are the cost of a relatively light price cut to reflect Zodiac's challenges.

The companies want ordinary shareholders to choose the cash option, leaving the preferred-stock alternative for those seeking tax savings. So the securities will be worth only 24 euros per Zodiac share, and will be subject to a three-year lockup. The same carrot-and-stick design was used by Anheuser-Busch InBev SA to appeal to core shareholders in rival brewer SABMiller Plc, and more recently by Atlantia SpA in its bid for a Spanish peer, Abertis Infraestructuras SA.

Because Safran's bylaws require an issue of preferred stock to go to a vote, shareholders effectively get a say in the whole transaction. That's very welcome.

Premium Seats
Zodiac shareholders are still being offered a premium by Safran despite two profit warnings
Source: Bloomberg, company statements

The snag is that the acquisition looks too expensive for the challenge the target represents. The all-in cost, including assumed net debt, is around 8.7 billion euros. A 9 percent return -- which seems an appropriate hurdle here -- would require a net operating profit of about 800 million euros, or 1.1 billion euros before tax.

So with 200 million euros of synergies envisaged, Zodiac needs to make 900 million euros of operating profit by itself. That's a huge leap: it made a net loss in the first half. Forecasts for 2020 are around 750 million euros of operating profit.

Safran is targeting an 8 percent return in four years. CEO Philippe Petitcolin has been touring Zodiac factories and identified a host of things that can be done better. It seems hard to believe that a visual inspection could yield such low-hanging managerial fruit, but he sounds confident.

There have been compromises all round to get to this deal. Sadly, the one most needed -- on price -- seems to have been the smallest of the bunch.

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:
Paul Sillitoe at psillitoe@bloomberg.net