In liquid and mature economies the stock exchange plays a crucial role in influencing the value of merger and acquisition deals and stock market prices are used as an important benchmark in valuating companies that are not traded on the stock exchange.
The assumption is that the demand for publicly traded companies’ shares is determined by broadly the same economic criteria as by the ones that are not listed. These include financial performance, growth potential and market position.
If companies are undervalued by the market, they can easily become acquisition targets. If they are overvalued, there is a high probability of a correction triggered by an M&A deal.
However, in Ukraine the relationship between stock market valuations and the price paid for acquired companies is quite tenuous and much more difficult to interpret.
This was highlighted recently by the largest banking acquisition deal in the country, when Italy’s UniCredit announced its intention to pay USD 2.2 billion for Ukrsotsbank, Ukraine’s sixth largest bank.
Despite setting a new record in terms of transaction size, the acquisition price was nearly 40% below the valuation of Ukrsotsbank’s stock on the local trading platform the PFTS. The news triggered an immediate correction, with Ukrsotsbank stock losing some 15% of its value on the day the news was announced. It has however since recovered much of the lost ground as investors expect that UniCredit will sell the remaining 5% of the bank at a public auction.
Ukrsots/Unicredit deal unusual
According to some industry insiders, the UniCredit-Ukrsotsbank deal was quite unorthodox, because UniCredit has said the final acquisition price will be adjusted based on the bank’s book value after the deal is closed. This could still raise the overall value of the acquisition deal and improve the relatively low multiple, which was below recent acquisitions of TAS-Kommerzbank by Sweden’s Swedbank and Index Bank by France’s Credit Agricole.
Also, investors are quite excited by the prospect of a fresh release of new shares. Although the bank may have been overvalued, many investors believe the arrival of UniCredit – one of Europe’s largest banks – will dramatically change Ukrsotsbank’s competitive position, raising its value in the long term.
More importantly, in a market that is starved for financial instruments, banking stocks are among the most popular among traders. Ukrsotsbank, which had a free float of 5%, was one of the most liquid and tradable banking stocks before the acquisition.
According to Sergiy Oleksiyenko, Vice President at the Kyiv based Renaissance Capital, the Ukrotsbank deal does not show that there is a mismatch between stock market valuations and actual acquisition deals. “As in the rest of the world, investors look to the stock market to provide valuation benchmarks,” he says. “Meanwhile, the stock market reacts to transaction values. In this way stock and deal valuations influence each other.”
Adomas Navickas, Partner at Baltic Investment Company, one of the leading M&A advisory groups in the region, says: “Although checking valuation with comparable company stock exchange trading multiples is common practice in Ukraine, transaction prices on PFTS may not be a reliable guide for decision making.”
Navickas says stock positions are taken by traders or investors with a very short term view and rely more on liquidity discount rather than economic fundamentals or financial performance of the company.
Economic fundamentals, Navickas argues, are hard to interpret from available financial disclosures by traded companies. Nonetheless, he adds: “We do track stock price indicators on the PFTS because company owners use it as a guide for themselves.”
Meanwhile, Oleksiyenko says that the most important factors that determine the M&A transaction value are growth prospects and unique market positions (market share). Stock exchange valuation is used primarily as a benchmark, Oleksiyenko adds.
Market capitalisation still low
However, most analysts concede that capital markets do not play as important a role as they should in determining M&A valuations. The total market capitalisation in Ukraine is low, with daily trading volumes lower than in Bulgaria, which is five times smaller than Ukraine.
Local companies have not yet come to realise the full potential of raising the capital locally through existing stock exchanges. There is no local culture of investing in public companies. As a result, the free float of companies that are traded locally tend to be limited. The ones that seek to list larger stakes usually turn to more liquid stock exchanges in London, Frankfurt and New York.
Ukrainian companies with limited free float face no real pressure from the public to supply reliable financial information, the basis for a fair valuation of publicly traded companies. The laws governing public information and enforcement still leave a lot to be desired.
Meanwhile, traders who dominate the market, as Navickas argues, place a premium on liquidity of the stock rather than economic fundamentals. There is a general view that most of Ukrainian stocks are still undervalued, which has been one of the main factors driving the relatively thin stock market.
Set against this background, it is plain to see why in acquiring local firms, foreign investors place little emphasis on stock valuations, even though there is a budding symbiotic relationship which will strengthen as the stock market matures.
