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On a straight comparable basis, the second-quarter results from CMA CGM were abysmal; confirming that 2017 was a peak year in terms of free cash flow and profitability for the French carrier.
However, group chief executive Rodolphe Saaede has sounded particularly upbeat lately – CMA CGM churned out very healthy cash flows in the first half, which alone might be the cause of his bullishness.
Ahead of the interim results, released after the markets closed last Friday, Mr Saaede told the press the pivotal third quarter was “looking good”, especially on transpacific routes. These were encouraging remarks from the boss of the only carrier that managed to be in the black in the second quarter, while the interim updates of most global rivals were materially worse.
In the never-ending quest for market share, the damage to carriers was partly self-inflicted, although soaring bunker prices and other cyclical headwinds also played a part.
So, is damage limitation all that most players can do before another round of deal-making – this time on a much smaller scale – materialises?
If so, what does Mr Saade have up his sleeve in terms of corporate strategy?
Having been recently rejected as a possible merger partner by Germany’s Hapag-Lloyd, CMA CGM is the poster child of a company that boasts a true capital deployment advantage against its rivals.
Debts are high against projected cash flow, true, but its credit rating already reflects those elements and, more importantly, efficient management of working capital contributes to give it room to exploit its balance sheet and grow via acquisitions, regardless of trading conditions, if the right deal is agreed.
The same can hardly be said for other major box liners.
While a takeover of between $2bn and $4bn can be mastered by CMA CGM, it would come at a peculiar time as its larger rivals – China’s Cosco Shipping and Denmark’s Maersk Line – are slowly sorting out their respective corporate entanglements and have little time to think about inorganic growth options, particularly true for Maersk Line.
Hapag-Lloyd has yet to figure out what it wants to do when it grows up, while MSC – the only carrier in the magic five that doesn’t disclose its financials – is busy warming to social media while booking new revenue streams from last-resort emergency surcharges, rather than entertaining new deals. And to be fair, MSC has rarely given acquisitions much thought.
In this environment, where carriers with less scale appear destined to become weaker, for me two targets stand out for consideration for CMA CGM: Israel’s ZIM Integrated Shipping Services and Taiwan’s Evergreen.
Industry speculation linking CMA CGM with a bid for Evergreen was strongly refuted by the Taiwanese carrier. But after the constant denials of OOIL and Cosco last year as ‘fake news’ just days before the multi-billion takeover deal, who believes corporate PR machines anymore?
After the M&A binge of the past couple of years, deeper ties among the major carriers is a likely outcome, and even new strategic alliances should not be ruled out.
Take, for instance, the recent announcement from Ocean Alliance members CMA CGM/APL and Cosco/OOCL, excluding Evergreen in this instance, to rationalise one of their Mediterranean-US east coast loops with a string of THE Alliance partners, Hapag, ONE and Yang Ming, into a single offering of six vessels.
So CMA CGM might indeed want to continue to gauge its options in Taiwan.
According to Mr Saade, the group is looking for opportunities to boost growth inorganically. If CMA CGM does not fully consolidate CEVA Logistics – in which it acquired a near-25% stake at IPO for almost $400m – and opts out of vertical consolidation in logistics at time when Maersk Line is reportedly merging with Damco (and CEVA stock is currently down 30% since IPO), what would be the risks and the benefits of additional horizonal tie-ups after its $2.4bn purchase of APL three years ago and other minor deal-making?
While kicking the debt can down the value road is the only game in town, the odds are short that the French company will be one of the first to act in a marketplace where its competitive strategy is surprisingly bucking the trends in terms of prices (down) and capacity management.
Tie-up and caveats
ZIM could struggle to sail solo through to 2019, but there are caveats with most takeover scenarios.
If CMA CGM turned its attention to ZIM it would have to resolve the issue of the Israeli government’s ‘golden share’ in the carrier. Israel has said numerous times it would never relinquish a hold that it has said “guarantees that the state’s interests are preserved” and prevents “hostile entities from taking positions that could influence ZIM”. Its golden share ensures that the carrier “will continue to operate ships in and out of Israel in times of emergency”.
Meanwhile, Evergreen, which prides itself on having broken the monopoly of the liner conference shipping by launching a then almost unheard of non-conference line in the 1970s and has recently celebrated its 50th anniversary, is a long odds bet.
When asked about the possibility of a takeover by CMA CGM, one Evergreen veteran told us recently that founding chairman Chang Yung-fa “would turn in his grave” at the mere thought.
However, ZIM and Evergreen both fit the bill, size-wise.
Stamping a 1x enterprise value/revenue, where the shares of comparable public companies trade, ZIM would be worth around $3bn, including $1.25bn of net debt.
On paper, this implies an equity value of about $1.7bn, which is roughly in line with its total assets of $1.8bn. However, that is a very high price tag for ZIM, given its fundamentals, global reach and coveted synergies.
Moreover, CMA CGM does not need to grow just for the sake of it, and it can wait another year or so before a more palatable ZIM – a target which might have bowed to cyclical headwinds, breaching covenants – is available to open talks.
Realistically, any suitor should pay a much lower change-of-control premium, especially considering over $1bn of new net debt that would need to be added to the combined entity’s balance sheet – and that is something CMA CGM can do without, given the cash flow generation of the target. The combined entity would have revenues some 15% higher than CMA CGM’s, but on a pro-forma basis, earnings accretion is not warranted under most funding scenarios.
Meanwhile, it is true that the negative book value of ZIM, which has deteriorated since late 2015, only mildly worsens when adjusted for the inclusion of intangible assets in order to derive tangible book value, but nonetheless it testifies to a poorly capitalised balance sheet. From a buyer’s perspective, sealing a deal where most of the target’s value resides in the book value of its net debt at face value would make much more sense, implying a zero value for the equity of ZIM in the transaction.
By comparison, CMA CGM’s adjusted equity position is €5.7bn. Strategically, as well as in terms of funding options, it could be more sensible to seek a merger with a player whose shares are already listed on the public markets, so Evergreen would be the outlier, but would not come cheap. With a market cap of $1.5bn, it is conceivable to suggest a valuation of up to $5bn for the enterprise, including net debts.
The Taiwanese carrier, which is financially stronger than compatriot Yang Ming, would add $4.8bn of revenues to CMA CGM’s top line (consolidated revenue would grow by 23%). Its latest balance sheet doesn’t pose the same urgency as ZIM’s to find viable solutions over the short term, given the nature and tenor of its debts, but the Haifa-based carrier could eventually resort to state aid if needed in future – which ultimately leaves a domestic Taiwanese tie-up between Evergreen and Yang Ming as next year’s most likely merger scenario.