Why KKR didn't play the waiting game with Treasury Wine

With less than three weeks to go until Treasury Wine Estates releases its full-year results, why didn’t Kohlberg Kravis Roberts & Co and its new partner Rhone Capital wait for them before putting a new takeover proposal on the table?

Presumably they came to the conclusion that no news wasn’t good news for them. Treasury hasn’t issued any new guidance for this year’s results, which presumably means that it is on track to deliver the earnings before interest, tax and SGARA (the wine industry’s treatment of inventories) of between $190m and $210m that it foreshadowed in January, when it revised downwards its earnings forecast.

With an apparently highly successful and visible Penfolds promotion (involving discounted wine fridges) in the lead up to the end of the financial year and Treasury’s shares continuing to trade around the $5 a share level to which they soared after KKR’s first approach was disclosed in April, there was nothing to gain by waiting for the results.

KKR and Rhone may also have believed there might be something to lose. Over the years a number of groups (mainly private equity) have kept open files on Treasury. It is conceivable that the news of KKR’s approach could flush out a competing proposal.

Now that they have revealed the price of getting access to the due diligence -- at the original $4.70 a level KKR was denied access but the revised level of $5.20 a share was deemed sufficient by the Treasury board -- the presence of prospective rivals may be revealed.

Treasury really had no choice but to allow KKR and Rhone to conduct a due diligence investigation of the group’s affairs. However, the board was sensible not to grant them exclusivity and therefore create a handicap for any prospective third party.

At $5.20 a share, the offer, which values Treasury at almost $3.4 billion, represents a premium of just over 40 per cent to the price at which Treasury shares were trading before KKR’s initial approach was revealed. Given Treasury’s history of disappointing performances, the group would have risked a shareholder backlash if it hadn’t taken an approach at that level seriously.

The proposal is, of course, indicative, non-binding and conditional. There is no guarantee that it will ultimately be endorsed by Treasury directors, who will have to compare it to their assessment of the prospects for enhanced value that might be created by their relatively new chief executive Michael Clarke.

Without their unanimous endorsement, the proposed scheme of arrangement offer can’t succeed. KKR has no history of making hostile bids; it prides itself on only making agreed offers.

Clarke, who did unveil $260m of non-cash impairment charges last month, has won some plaudits from the market for fundamental changes to the way the group’s treats band markets in flagship Penfolds brand, as well as changes he has made to the organisational structure and is making to its cost base.

The directors (and KKR and Rhone) would also be well aware that Treasury has built up a near-$500m pool of premium non-current inventories that it will be able to monetise over the next few years. Merrill Lynch’s David Errington has estimated that the earnings of the Penfolds brand alone could nearly double from $180m to $350m over the next two or three years as that store of premium wines is unlocked.

The changes Clarke has made to the group will see a much heavier emphasis on marketing support for Penfolds, regarded as the jewel in Treasury’s sprawling portfolio of masstige and commercial brands. An obvious private equity game plan would be to sell-off Treasury’s other brands and operations, including the big but troublesome US business, to reduce the group to its Penfolds core.

Like many private equity firms, KKR is flush with funds and has access to ultra-cheap debt. It is somewhat surprising that it has brought Rhone Capital into the play, although the two firms apparently have long-standing personal relationships.

Rhone, which has more than $4bn of assets under management, focuses on international businesses across a spectrum of industries. It may be that its inclusion does presage a carve-up of some of the assets within Treasury if the current approach ultimately results in a successful acquisition.