Lying in wait for a GrainCorp gaffe

Increasing its holding in GrainCorp gives ADM a number of options if the agribusiness shoots down its latest offer, including the ability to wait for a poor grain season to derail its good fortune.

The key question for the GrainCorp board after it received a revised, higher but still highly conditional proposal from Archer Daniels Midland last night is not whether to recommend it but whether to engage with its suitor.

Tactically it wouldn’t make sense for GrainCorp to endorse the new indicative offer of $12.20 a share, given that by doing nothing the board has already forced ADM to lift its offer from $11.75 a share.

But should it engage with ADM and meet one of the core conditions of its proposal by granting it access to due diligence? Given that the board said the initial ADM offer materially undervalued their company, one suspects it won’t regard the increase of less than 4 per cent in its value as compelling.

ADM has created pressure for some kind of engagement from GrainCorp by lifting not just the indicative offer price and its valuation of GrainCorp by around $100 million, to $2.78 billion, but its shareholding, by 5 per cent of GrainCorp’s capital to just under the takeover threshold of 20 per cent.

Not only does that demonstrate the seriousness of ADM’s intent but, after the relative ease with which ADM attracted its original 15 per cent stake, it also says to GrainCorp that the price levels are prising loose its bigger shareholders.

With a relatively solid proportion of its register changing hands since the ADM interest in it first emerged – about 30 per cent was in the hands of hedge funds – and ADM’s determination to acquire the company not in doubt, the pressure on the board is mounting.

The board, analysts and some shareholders appear to believe that ADM needs to offer something with $13 a share in front of it to reflect their view of GrainCorp’s value.

There are even some who think there should be a $14-plus price tag on a company that represents the last significant listed exposure to Australia agribusiness and, for the global agri-majors like ADM, the last meaningful and available southern hemisphere counter to the northern hemisphere seasons.

It is also uniquely (among available agribusinesses with scale) perched on the edge of the Asia Pacific growth region and exposed to its exciting long-term prospects as China in particular continues to shift up the development curve.

ADM’s willingness to move, unprompted and without any deep and meaningful engagement with GrainCorp, to $12.20 a share suggests there may be something more to extract as the final price of an endorsement and the board’s co-operation, even though the indicative offer price is now almost 40 per cent above where GrainCorp shares were trading before ADM moved.

Interestingly, ADM's latest proposal has a 50.1 per cent minimum acceptance condition. Presumably that’s to create an implicit threat that it could go truly hostile and mount a conventional offer with a far lower threshold for success and one that circumvents the GrainCorp board.

ADM now has more than $500 million tied up in its GrainCorp shareholding and, while it has some history of patience in its corporate activities, that’s a lot of capital to have tied up in a passive shareholding for a couple of years.

In any event, the 20 per cent stake gives ADM options – it can outwait its target, waiting for it to stumble, or dial up the intensity and shorten the timelines. The size of the stake almost certainly rules out competition from one of the other global agribusiness majors, so ADM could sit on the GrainCorp register waiting/hoping for a poor grain growing season.

GrainCorp knows that it has another strong season and financial performance virtually locked in this financial year. Alison Watkins has outlined plans to add $110 million of earnings from business improvements over the next four years and GrainCorp is now as much a processing company as a grains handler.

With only just over 40 per cent of its earnings coming from storage and logistics its earnings won’t be quite as volatile as they might have been in the past but there is still something of a question mark over the 2013-2014 season and therefore over the momentum in its earnings that could create vulnerability and undermine its value in the future, relative to what it might be able to extract today.

The ADM proposal is so conditional and so dependent on GrainCorp’s support to get anywhere that the board could continue to ignore ADM and hope to force it to bid against itself a second time to at least get through the door to conduct due diligence ahead of a final negotiation over the price of a recommendation.

Or it could truncate that process, open the data room now and start a serious negotiation after ADM has done its homework. For the moment the protagonists in the takeover tussle are still in the phoney, tactical phase of trying to gain or retain negotiating leverage.

How GrainCorp responds to ADM’s move will shape the course of events in the near term but there is some potential for this to turn into a quite lengthy saga if GrainCorp doesn’t blink and ADM decides to wait and hope for Mother Nature to eventually undermine the defence.