AA investors rescued

When the history of AA (AA.) is written, the last six years of public ownership – and the 86 per cent share price decline which marked it – will be a bleak chapter. But investors in the roadside recovery group should probably count their blessings after finally receiving a 35p-a-share cash offer from private equity firms TowerBrook and Warburg Pincus.

The deal, which AA’s board has unanimously backed, is a 40 per cent premium to the closing price of 25p on 3 August, the last day before news of takeover interest broke.

At that time, three parties – Platinum Equity Advisors (PEA), Warburg Pincus and a consortium that included TowerBrook and Centerbridge – had each indicated their interest in a possible all-cash bid. After PEA ruled itself out in late September, TowerBrook and Warburg Pincus formed a consortium to thrash out a deal, which eventually arrived this week after several deadline extensions.

That a deal has taken so long to emerge is testament to its complexity, a backdrop of profound operating uncertainty and competing interests from numerous third-parties – most notably the trustee of AA’s pension scheme and the bondholders which own most of the company’s £2.6bn net debt pile.

“The board has concluded that the acquisition... is in the best interests of the AA, its shareholders and wider stakeholders, and as such is unanimously recommending the acquisition,” said chairman John Leach.

Mr Leach and the board has received backing from US hedge fund Davidson Kempner, which holds a stake worth 12.1 per cent of AA’s shares. However, the offer looks set to be rejected by Albert Bridge, which owns 19.9 per cent of the AA through a mixture of derivatives and shares. In a letter to other investors, its chief investment officer Drew Dickson called the bid “derisory”, said the “risks of the current capital structure have been overplayed”, and argued the AA’s board has become “overly anxious”.

Though the deal has been struck at an enterprise value of 10 times’ Ebitda for the year to January 2020, the profit figure excludes capital expenditure, while just £219m of the £2.86bn numerator is comprised of equity. Had a bid not emerged, the task of refinancing more than £1bn of bonds due by 2022 had threatened to wipe out shareholders entirely.

Albert Bridge believes management can extend bond maturities without the need for equity dilution, but we’re not so sure. Even with a debt reorganisation, and all the costs that brings, the company would require a big equity injection soon enough, and management no longer appears inclined or confident enough to sell a growth story to existing shareholders.

Given these risks, we weren’t alone in our pessimism when we recommended investors sell at 26.8p, six weeks before takeover chatter began. In the month before takeover interest emerged, broker target prices ranged between 5p and 100p, and have hovered between 12.5p and 17.5p on average ever since, according to FactSet. That suggests the final bid is a decent outcome for investors, even if the offer is scant consolation to long-term holders.

In a confusing last-minute twist, investors have been given the option to take cash or receive unlisted securities in a newly-formed Topco. Neither AA’s directors nor its highly-paid advisers at JP Morgan and Evercore were able to advise on the merits of this alternative offer, and we think shareholders should opt for payment in cash.

Investors would do well to remember this bleak episode, and the lessons of over-leverage, if and when private equity attempts to re-list AA in the coming years. When a vote is scheduled, accept.

Last IC View: Sell, 30.1p, 29 Sep 2020