News broke this weekend that The Valspar Corp (VAL) agreed to be acquired by Sherwin-Williams Co (SHW) for $113 per share, representing a premium of 35% to Valspar’s closing price on Friday. We own Valspar in our Long-term Dividend Growth portfolio and were pleased with this development.
We had previously analyzed the coatings industry and published research on Sherwin-Williams and PPG Industries (PPG). Both of these companies are members of the dividend aristocrats list and Valspar has increased its dividend for more than 35 consecutive years, so it’s no surprise that coatings companies are some of our favorite blue chip dividend stocks.
According to PPG, the coatings industry is about $130 billion in size but highly fragmented – the largest player has less than 15% market share. This provides plenty of opportunities for large companies such as Sherwin-Williams and Valspar to take share from smaller players and better serve multinational customers. Certain coatings also command high margins because they make products last longer and look visually appealing, helping customers save costs and make more sales. The business also requires relatively little cash flow and provides an essential service, resulting in consistent free cash flow generation.
The merger between Sherwin-Williams and Valspar combines the third and fourth largest players in the industry and creates a company with $15.6 billion in sales that can better compete with PPG, which has $15.3 billion in sales. The deal also gives Sherwin-Williams more exposure in international markets, which accounted for 50% of Valspar’s revenue. Valspar also brings the number two do-it-yourself paint brand in the U.S., strong market share positions in packaging and coil segments, over 10,000 distribution points, and numerous new technologies.
Here is what Sherwin-Williams’ CEO had to say about the deal:
“Valspar is an excellent strategic fit with Sherwin-Williams. The combination expands our brand portfolio and customer relationships in North America, significantly strengthens our Global Finishes business, and extends our capabilities into new geographies and applications, including a scale platform to grow in Asia-Pacific and EMEA. Customers of both companies will benefit from our increased product range, enhanced technology and innovation capabilities, and the transaction’s clearly defined cost synergies. We have tremendous respect for the expertise and dedication of the Valspar team and we are excited about the opportunities that this combination will provide to both companies’ employees. Sherwin-Williams will continue to be headquartered in Cleveland and we intend to maintain a significant presence in Minneapolis.”
While some investment situations make it hard to know if we should sell our stock, selling into news of an acquisition is a happy ending with few second guesses. We think Sherwin-Williams’ offer is more than fair (it values Valspar at 23.3x forward earnings) and see no reason to take on any risk of the large deal closing (e.g. antitrust regulators raise competitive concerns given the size of the companies involved).
Importantly, the terms of the merger agreement state that Sherwin-Williams has the right to terminate the transaction if the company is required to divest more than $1.5 billion in revenues and can adjust the price of the transaction from $113 per share to $105 per share if divestitures of at least $650 million are required. While the companies believe no or few divestitures will be required, we see no reason to wait around.
The challenging task is figuring out where to put the proceeds from our sale, especially after the market’s sharp recovery since mid-February.
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