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Take a chance on Umeco counterbid

Cytec's bid for Umeco may ignite interest among rivals – so its shares are still worth buying
April 26, 2012

Shedding its supply chain business last year to become a pure play on high-tech composite materials put Umeco firmly in the shop window. So a predator was always likely to strike. Yet, while the agreed offer of 550p per share in cash from US chemicals company Cytec is unsurprising, it still looks low, and a rival may agree. So, what are the chances of a rival bid and should investors exploit that chance? It's worth examining the risks and rewards.

IC TIP: Buy at 570p
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Speculative
Risk rating
Low
Timescale
Long Term
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Bear points

Cytec's offer values Umeco at £274m, or 17 times earnings estimates for 2013. That's "attractive", says Umeco's chairman, Neil Johnson. Yet some City analysts reckon that a bid of 640p per share is feasible, based on the notion that synergistic predators can get extra savings from merging Umeco with their operation. If there is just a one-in-four chance of such a bid emerging, then probability theory says that buying Umeco shares at 570p would be profitable. That's when the weighted gain of 17.5p (70p x 0.25) exceeds the weighted loss of 15p (20p x 0.75). Even a lower bid - 615p for example - could still stack up.

Figuring it outProbability
Outcome*Effect80/2075/2570/30
Cytec wins at 550p20p loss-16p-15p-14p
Competitive bid wins at 615p45p gain+9p+11.3p+13.5p
Competitive bid wins at 640p70p gain+14p+17.5p+21p
*Assumes share price of 570p. If the share price changes, so does the calculation

Umeco shares currently trade at a 20p premium to the offer price, so clearly market makers are taking seriously the possibility of another bid. This also limits losses to 20p per share. Hexcel looks the most likely gatecrasher. Its exposure to composites is very similar to Cytec's and it has the funds, too. Toray Industries of Japan, Dutch firm TenCate or Switzerland's Gurit should also have crunched the numbers.

They understand that Umeco's exposure to the aerospace boom - it makes lightweight panels for Boeing and Airbus - should drive double-digit growth. Then there's valuable work for Formula One teams, supplying material for the all-composite Foxhound armoured vehicle, unmanned drones and wind turbine blades. And it's only a matter of time before volume carmakers will crawl all over Umeco.

Besides, Umeco should be worth more to Cytec than its bid implies. The US firm is struggling to cope with demand at its aerospace business and transferring work to the UK, where Umeco is underutilised, would add extra capacity.