Is Potash (NYSE:POT) Management Smarter than McAfee’s (NYSE:MFE)?

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A few days ago when BHP Billiton (NYSE:BHP) offered to buy Potash Corp (NYSE:POT) for $130 a share or $39 billion in total, Potash management rejected the offer right away claiming the purchase price is “grossly inadequate”. BHP management refused to raise its bid, but POT shares still rose above $130 to trade around $143. As explained in our post Potash Should Take BHP Money and Run, the $143 trading price implies 60% annual sales growth for POT for the next 5 years assuming its 5 year median EBITDA margin. A very lofty expectation! We hope Potash management works with BHP to settle the deal and don’t let the opportunity slip. Otherwise, they are doing a big disservice to shareholders and POT shares will face a free fall should the deal fail to go through.

Today, news broke Intel Corp (NASDAQ:INTC) has offered to acquire McAfee Inc. (MFE) for $7.7 billion or $48 a share. So far, we haven’t heard any objection from McAfee management! To deserve such an offer, McAfee will need to deliver an average sales growth of 15% and EBITDA margin of 21% for each of the next five years. To provide some perspective, in the past five years, McAfee’s sales have grown at an annualized 16%, including multiple acquisitions. Its EBITDA margins have consistently been below 21% during the past decade, except in 2005 and 2009. While it is not entirely impossible, McAfee will likely have trouble delivering double digit growth for the next 5 consecutive years, considering the US economy is on the brink of a double dip, and the overall developed economy is expected to grow just 2.3-2.7% in each of the next 2 years, according to the World Bank. McAfee share holders are being offered a good price and it is wise of McAfee management to cooperate and make sure this deal complete without any unnecessary drama.

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For Intel, though it is paying a premium to acquire McAfee, outside strategic rational, this purchase underscores the balance sheet strength Intel enjoys. At the end of 10Q2, Intel had close to $20 billion in cash and other short term investments, relative to its total asset base of $57 billion. As we wrote on pages 2-3 of our 2010 July Monthly Market Review, the situation of US Large Cap corporations differentiates America from Japan’s lost decade, as their corporations have been engaged in a decade long struggle to deleverage. Corporate America is ready to exit balance sheet recession and has the resource to expand, but just needs a glimmer of hope from Washington that the business climate will at least be neutral and not hostile as it has been over the past two years. Specifically, Non financial companies in the S&P500 are sitting on a record $837 billion in cash, and their cash and short term investments as a percentage of debt, have risen to 36.6% at the end of 10Q1, up from 27.1% two years ago.

Our preference is that companies return excess cash to its owners, as the typical acquisition is a loser for the buyer. With this much cash burning holes in CEO pockets, there will likely be more M&A on the horizon, and we will have a lot more discussions like this with you in the future.

Other Articles Of Interest On ValueExpectations.com

1. Potash Corp./Saskatchewan should take BHP Billiton Limited’s money and run.

2. AFG's Asset Allocation Model

3. Monthly Market Review July, 2010 - Double Dip, Balance Sheet Recession and Down Under

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