Published on November 12th, 2015
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Sigma-Aldrich (SIAL) is a diversified chemical, life science, and biotechnology company. The company was founded in 1975 and now has a market cap of $16.8 billion.
The company makes the following products:
- Diagnostic products
- Biochemical products
- Chromatography products
- Organic chemical products
Sigma-Aldrich is not a normal Dividend Aristocrat stock. Some interesting characteristics of the company that set it apart from other Dividend Aristocrats.
- Has a low dividend yield of 0.7%
- Operates in a ‘high technology’ industry
- Is scheduled to be acquired by Merck KGaA
All of the hurdles of the acquisition have been cleared. The acquisition will take place on November 18th, 2015. At this date, Sigma-Aldrich will no longer be a Dividend Aristocrat as it will join Merck KGaA.
While the company is no longer a traditional dividend growth play, it is highly instructive to analyze why Sigma-Aldrich was acquired, and what characteristics other recent Dividend Aristocrats that have been acquired share with Sigma-Aldrich
Dividend Aristocrats Are Being Acquired
There have been 3 Dividend Aristocrats that have been acquired or are pending acquisition since 2014:
- Sigma-Aldrich by Merck KGaA
- Family Dollar by Dollar Tree (DLTR)
- Chubb Group (CB) by Ace Limited (ACE)
These 3 acquisitions mean that over 5% of the Dividend Aristocrats index has been acquired in the last ~2 years.
The first thing that jumps out is the relative size of the acquired companies. Before their acquisitions, these 3 companies had the following market caps:
- Sigma-Aldrich had a market cap of around $12 billion
- Chubb Group had a market cap of around $23 billion
- Family Dollar had a market cap of around $7 billion
These companies are all small for a Dividend Aristocrat.
They all maintained strong competitive advantages and had valuable assets that allowed them to grow dividend payments for more than 25 consecutive years in a row.
Potential Future Dividend Aristocrat Acquisitions
The questions is – what Dividend Aristocrats today are small enough to be acquired?
After all, a giant industry leader is not going to be acquired… Who is big enough to acquire Wal-Mart (WMT) or Procter & Gamble (PG)? No one in their industry could acquire them as they are larger than their peers.
The Chubb acquisition was an anomaly; it was the largest acquisition in property-casualty insurance history. The size of the other 2 recent Dividend Aristocrat acquisitions was much smaller. All 11 Dividend Aristocrats with a market cap under $15 billion (comparable in size or smaller than Sigma-Aldrich before it was acquired) are shown below:
- HCP Inc. (HCP) – $15 billion
- C.R. Bard (BCR) – $14 billion
- Genuine Parts Company (GPC) – $13 billion
- W.W. Grainger (GWW) – $13 billion
- Nucor (NUE) – $13 billion
- McCormick & Company (MKC) – $11 billion
- Cintas (CTAS) – $10 billion
- Dover (DOV) – $10 billion
- Pentair (PNR) – $10 billion
- Cincinnati Financial (CINF) – $10 billion
- Leggett & Platt (LEG) – $6 billion
In addition to being small, a company must not be overvalued for it to be a potential acquisition target. Family Dollar had an adjusted price-to-earnings ratio of ~15.0 prior to its acquisition. Chubb had a price-to-earnings ratio of ~12.0. Sigma-Aldrich is the outlier, with a price-to-earnings ratio of around 24.0 prior to its acquisition.
All of the smaller Dividend Aristocrats with a price-to-earnings ratio (FFO per share used instead of earnings for HCP since it’s a REIT) under 18 are listed below:
- HCP Inc. has a price-to-FFO/share ratio of 11.4
- Pentair has a price-to-earnings ratio of 15.4
- Cincinnati Financial has a price-to-earnings ratio of 15.6
- Dover has a price-to-earnings ratio of 16.2
- W.W. Grainger has a price-to-earnings ratio of 17.3
For a business to be acquired, it (usually) needs an acquirer that is significantly larger. HCP Inc.’s largest competitor has a market cap just 36% larger than HCP. W.W. Grainger is the leader in the highly fragmented MRO industry, making an acquisition unlikely.
Dover and Pentair both have several giant companies in their space that make an acquisition possible. The largest of these competitors are General Electric (GE), 3M (MMM), and Honeywell (HON).
There are a total of 4 (not counting Berkshire Hathaway, Chubb, and ACE) property & casualty insurers more than twice as large as Cincinnati Financial that could potentially acquire the company. AIG (AIG) and Travelers (TRV) are the two largest of these companies.
If the bull market continues, the next 3 most likely Dividend Aristocrats to be acquired are Cincinnati Financial, Dover, and Pentair. This doesn’t mean the odds are high that these companies will be acquired, but they have a greater chance of being acquired for a premium than other Dividend Aristocrats.
Back To the Sigma-Aldrich Acquisition
Sigma-Aldrich is being acquired because of its valuable assets, strong cash flow generation capabilities, and potential synergies with Merck KGaA.
Chief among these assets is Sigma-Aldrich’s e-commerce site. The company owns the leading global life sciences e-commerce site which is used by: scientists, researchers, clinicians, engineers, and commercial manufacturers.
Sigma-Aldrich’s research and development and compliance departments will fit will with Merck KGaA. The acquisition was priced high… Merck KGaA is acquiring Sigma-Aldrich for a price-to-earnings ratio of around 34.0 (at current earnings). The high price shows the high value that Merck KGaA places on Sigma-Aldrich’s premium assets.
Acquisitions & Great Businesses
As a long-term investor, I don’t initiate positions thinking an acquisition will occur. With great businesses, you have the benefit of holding for the long-run. Eventually, a great business may be taken off the market for a steep premium – this is very beneficial for shareholders.
Not every Dividend Aristocrat is going to be acquired. By focusing on Dividend Aristocrats that have the potential to be acquired, investors get the potential of being bought out at above-market prices.