Wednesday, September 19, 2012

Sage Rumours and a Rising Share Price

After a long period of tracking the TechMark All Share Index, Sage has strongly outperformed recently. Those who know me know that I am not qualified to comment on the reason why shares go up or down, and indeed anytime I tried to make money out of this art I have failed!

Having said that, there are those smarter than me, that are connecting the rise with rumours (for the umpteenth time) that the company is the target for private equity or (less likely) strategic bidders.

Oil has now been added to the fire with a rumour coming from longtime Sage watcher @dahowlett that Sage is considering divesting its US business (hat-tip to @GeorgeO for spotting this). 

Assuming this rumour relates to the whole of the North American business, then we are talking about just under 30% of the business in P&L terms, with slightly less profitability than the European division as a whole, and substantially less than the UK, still the most important driver for profits (by far) for the group.

Why divest and why now?

Whilst it is always stated that Sage competes with Intuit in the US and is the #2 player, from a scale point of view this is an irrelevance. Even if you take out the consumer side of the Intuit business, their B2B side is orders of magnitude larger than Sage, with all the benefits that this brings (See Sage’s domination in the UK and the margins it achieves). Whatever Sage does in the US it will never dominate in the way that it does in some of its other markets. This means that growing the business Stateside will always be an uphill struggle and profitability has no chance of reaching the heights of the UK, perhaps not even the rest of the group.

By selling this part of the business Sage will be instantly liquid from a balance sheet point of view, allowing her two possibilities (and maybe even both). Return of capital to shareholders, never frowned upon in the City of London, and ammunition to be more bold in building a genuine growth strategy for the next decade (either organically or via M&A).

From a timing point of view we are well into the reign of Mr Burryer, who has the difficult job of leading Sage back into growth, without upsetting those folks in the City who love dividends and low risk. Aggressive acquisitions have been hard to come by, and organic growth at a group level is not responding (yet).

Notwithstanding the recent outperformance, over any other period Sage has not outperformed TechMark and whilst it has been a steady performer within the FTSE 100, one wonders whether this is purely on bid premium, rather than fundamentals. A divestment of this scale should increase Group profit margins, if only slightly!

In summary the case for divestment is more focus on market dominant and growth markets, ability to drive shareholder value, and ammunition for the management to go after a more aggressive strategy (which the company can probably afford). It will rightfully establish management credentials on their ability to make important and significant corporate decisions that drive long term shareholder value.

Why might it not happen?

Well firstly this may just be a rumour and therefore far from management’s mind. This is the way of rumours!

Sage have been making money (perhaps not enough) in the US for the best part of two decades. It will be an ENOURMOUS decision for the company and board to take. The make-up of the board is conservative and thus, makes it unlikely that they will encourage such a bold move (my opinion, apologies to the board if I am wrong!).

Sage will no longer be a global company. Have to say that this is the weakest argument I could find, as Sage is not a global company anyway. As I, and many others, have stated in the past, Sage is a very successful federation of companies with very little by way of global integration or synergy (R&D, Sales & Marketing etc).

The point here is that the global question is somewhat of a red herring given the analysis that the company is not global and therefore has nothing to lose by accepting that fact in a major US divestment.

Ironically public companies are affected by near term movements in share price (both up and down). Management do try their best not to take decisions based on this, but it is very hard to be completely divorced from this daily (and sometimes cruel) reality. Given the rally in the shares that we started this blog with, it may seem less “urgent” to take strategic (i.e. long term) decisions about the business.

On balance I think that the possibility of a deal of this kind should be considered, obviously subject to price, but also subject to one other consideration. What would the company do with the proceeds? Can the board and management pull-off the aim of driving growth and preparing Sage for the next decade\s? This is obviously not a question I can answer with authority, but if I were a shareholder I would be asking.

Finally, and as a postscript, whatever the reason for the rise in share price I am confident that it has taken Sage out of the price range of the potential private equity buyers. Doesn’t mean that they do not have their pencils sharpened, they will simply have to wait and see, with the rest of us, whether the company can put growth numbers together to justify a public company rating – we continue to wish them the best of luck!

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