Pros

1.        New CEO has a strong pedigree and is signaling confidence with his own capital. Lebard’s dramatic statement of confidence in purchasing such a large quantity of stock from IFIL is the real impetus behind this investment idea – it is quite rare to see an executive commit such capital to his own work, essentially at the same time as taking over the formal CEO role. The timing of it in conjunction with the deal for MAP is also a positive signal that the apparent benefits of the deal are strongly supported by the principal actor in its integration, suggesting perhaps even more upside than management has disclosed. Lebard joined UK private equity firm 3i in 1988 at the age of 26 and was successively Business Manager, Director of Investments, and Associate Director of the Paris office. In 1991 he joined the Exor Group (part of the Agnelli Group) as Director of Investments. He became a board member at VOR in 2004 and Deputy Managing Director in May 2005, and was just recently promoted to CEO.

The company revealed that IFIL would participate in the financing of DLMD’s purchase in the amount of €27mm. IFIL and DLMD also signed a shareholders’ agreement for an initial period of three years with the aim of keeping the shareholder base stable during this period. The agreement also details the BoD composition, with 4 members to be nominated by IFIL (including the current chairman), 3 members to be nominated by DLMD (including Lebard), and 3 independents nominated by common agreement.

DLMD stands for Daniel Lebard Management Development (Daniel is Lebard’s father).

2.        Pure-play structure makes VOR easier to understand and allows to management to focus on one industry. There are obvious synergies between paper manufacturing and paper distribution, the two remaining core businesses at VOR. There are fewer apparent synergies with inspection (SGS), investment management (Permal), etc. so it is sensible to have exited these businesses and to evolve from a holding company into an operating company (though the two subsidiaries are still technically different companies). The key transaction in this evolution was the disposition of the SGS stake, with the MAP deal confirming the company’s ambitions (in their words). The company intends to continue its expansion into low-cost and high-growth areas, supplementing its leadership positions in high-value-added, high-technology, and knowledge-intensive segments (as seen by recent deals in Arjowiggins). The new focus also minimizes re-investment risk as management will almost certainly allocate capital to furthering their paper strategy.

3.        Significant upside possible at Antalis with MAP transaction. MAP distributes 1,432mm tonnes of paper, including CWF, UWF, other printing paper, cut-sizes, specialty papers, and board, as well as additional services. It has a presence in 23 countries with 74 warehouses, and 50k primary customers getting supplied by over 100 mills (10 key suppliers, M-real being 35%). Combined, the company will be present in 30 countries and have the top market share in 17 (with operations also in Asia, S America, and S Africa, and through its alliance with xpedx, in N America).

Synergies of €20mm+ will come from purchasing and logistics (primarily in the UK, Central/Eastern EU, Benelux and Spain). While not providing and figures associated with these synergies, there are apparently further opportunities in sharing of best practices, procurement consolidation, etc. as well as revenue synergies (per the company, the leading players in each country usually get the “best” clients so this move higher in respective rankings could lead to volume growth and/or improved mix). As mentioned, these synergies represent 0.6% of the segment’s pf sales, with a 2010 goal of 3.5% EBIT (vs 2.2% in 2006 or 2.8% counting synergies of €20mm). At constant 2006 sales, 3.5% EBIT is €131mm (vs €83mm for pf Antalis-MAP in 2006), or a 52% increase over VOR 2006 stand-alone EBIT.

The merger also includes a medium-term supply agreement and partnership with M-real in which the current Antalis-MAP volumes are secured with potential for further growth for M-real while Antalis-MAP will get access to new high-value-added product ranges (in CWF and in office paper).

4.        Potentially more upside from the Permal earn-outs. Management had stated they expected to receive “a very significant portion” of the earn-out on top of the proceeds from the November 2005 transaction. The initial 70.5% stake was sold for $705mm with an additional 5.5% to be sold for $55mm in November 2007, with the latest earn-out of $115mm also paid at that date. The final 1% (November 2009) will be sold for $10mm with an additional earn-out up to $30mm.

Cons

1.        MAP had to include certain anti-trust remedies. From the company:

This transaction has been cleared by the European Commission upon Antalis’s commitment to divest one of the two subsidiaries of Map in the U.K. Antalis, who anticipated this decision, committed to divest the UK merchant paper Premier Paper, while retaining McNaughton with whom Antalis UK now shares a #2 position in the U.K. paper distribution market.

2.        Provisions, including related to environment, represent some risk. Key provisions at the company include those associated with Fox River (€121mm at YE06; environmental issue concerning a river in Wisconsin with insurance refunding part of the expenses), DG IV (€205mm but reduced by €52.5mm in April on a successful appeal; EC fine for price-fixing in the carbonless paper market), and pensions (€117mm). Fox River is the provision with the most serious concern attached.

3.        Exposure to Western EU leads to relatively higher cost structure and lower demand in certain segments. The EU represented 69% of 2006 sales. In 2006, there were fundamental business concerns in both segments (though these risks can generally be hedged). Arjowiggins faced lower volumes (down 2.6%) which were offset by a positive price/mix effect; however, EBITDA fell by €22mm (to €142mm) as external costs were not offset by a reduction in costs. Issues were primarily in coated woodfree (CWF) where the company notes it lacks critical mass in a commoditized segment led by integrated players (Sappi, M-real, UPM). The company stated in Q1 that conditions remain difficult in terms of excess capacity in the segment but overall, VOR managed to report a 15.9% increase in EBIT with selective price increases and higher revenues in faster-growing regions, and the last two quarterly reports have shown continued progress (in stark contract to most other paper companies in Europe who have seen share price reductions of some magnitude since the summer due to cost pressure, FX pressure). CWF capacity closures in Western EU should help but continued capacity growth in Asia and the strong € are pressuring exports.

Antalis revenue growth was slightly negative YoY (down 1.5%) in 2006 and EBITDA margin declined 30bps to 3.0% from 3.3% (EBIT margin flat at 2.3%). Lower EU activity was somewhat offset by strength in Asia but the margin pressure in Western EU was not completely offset by other regions and in fact, increasing competition in Eastern EU also contributed to lower EBITDA. The MAP deal is a reaction to the competitive landscape, and indeed, management stated at the year-end results (March) that they were ready “to consider any major acquisition allowing it to consolidate the sector in the context of growing competition” (their emphasis). Note in particular that MAP is strong in Eastern EU / Russia / Ukraine, and this deal should help reduce the increasing competition cited above.

Latest results and guidance as can be found on the Sequana web-site are directionally positive:

Commenting the outlook, Pascal Lebard added : « The paper industry faces a tough environment, as a result of a rise in raw materials and energy costs and the continued weakness of the USD currency compared to the Euro. The positioning of Sequana Capital, present in both paper distribution and paper production activities, its low exposure to the USD currency and its continued costs reduction programs should allow to better resist to the current environment than some of its market peers.

For the full year 2007, we continue to expect a strong increase in Antalis’s results, as well as at least a comparable performance for Arjowiggins compared to last year. Therefore, we confirm our expectations for a better operational performance of Sequana Capital for the full year 2007. »