Breakingviews: PPG will struggle to paint by Akzo Nobel numbers

NEW YORK (Reuters Breakingviews) - PPG Industries will struggle to paint by Akzo Nobel's numbers. The Pittsburgh-based maker of Glidden and other coatings and chemicals is deciding whether to improve on an offer to buy Dutch competitor Akzo Nobel after an unsolicited $22 billion entreaty was firmly rejected. To make the deal stick requires some ultra-glossy cost savings (see calculator

The brisk pace of consolidation throughout the industry may be intensifying PPG’s desire to get bigger. Domestic paint rivals Sherwin-Williams and Valspar are putting the finishing touches on their merger after a lengthy antitrust review as Dow and DuPont trudge through the complications of their $130 billion chemical romance.

Akzo Nobel suggests the solution is to get smaller. In response to PPG’s cash-and-stock offer, which it derided as too low, the company accelerated plans to figure out how it might separate its specialty chemicals arm. To win over a board also shielding itself with claims of responsibility to customers, employees and societies means PPG will have to woo shareholders with a more generous premium.

By some metrics, it has room to maneuver. Start with the assumption that PPG will at a minimum want to cover Akzo Nobel’s cost of capital, which Morningstar analysts put at 8.3 percent.

Suppose PPG raises its offer from 83 euros a share to 90. Akzo Nobel is expected by analysts to generate about 1.6 billion euros of earnings before interest and tax in the coming year. Taxing them at 25 percent and dividing the resulting net operating profit after tax by the deal’s approximately 25 billion-euro enterprise value yields a return on investment of 4.8 percent, according to Breakingviews calculations.

So to make the numbers work, PPG Chief Executive Michael McGarry would need to find about 1.2 billion euros of cost savings. That would amount to 8 percent of Akzo Nobel’s sales. Over nearly two decades of chemical-industry acquisitions, buyers on average have found synergies equal to about 6.8 percent of a target’s revenue, according to a presentation last year by Axiall related to its own sale to Westlake.

Considered another way, achieving the return hurdle would mean hacking out 4.6 percent of some 25 billion euros in combined PPG and Akzo Nobel costs. That proportion far exceeds Sherwin-Williams’ expectations but would be on par with what the Dow and Westlake deals envision, according to Morningstar. For PPG shareholders anything less would be corrosive.

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- PPG Industries, a U.S.-based maker of paints and coatings, confirmed on March 9 that it had made a takeover bid for Dutch rival Akzo Nobel, after its target disclosed and rejected what it said was a cash-and-stock offer valued at 83 euros a share worth about $22 billion.

- Akzo Nobel said it would “unlock value” instead by spinning off its chemicals business.

- PPG said it would “carefully evaluate and consider its position and path forward related to its proposal.”

The author is a Reuters Breakingviews columnist. The opinions expressed are his own.