Simon Baker Opinion: REA Group Would NOT Bring Material Extra Value to Rightmove With a Takeover

The big news is that the REA group is thinking about acquiring Rightmove for a mooted GBP 4.4 Billion. In a relatively unorthodox way, they have announced that they are considering an on-market offer to acquire Rightmove. Their hand has been forced by press and market speculation.

The big question is, "Is this a good deal?"

For Rightmove shareholders, there's no question—shares are up 27% today giving shareholders a great return on what has been a flat share price all year. My guess is many will be selling their shares and being bought by speculators betting that REA will have to offer more than a 30% premium.

However, the REA Group share price has taken a battering, down more than 5% since the announcement, showing shareholders are not as keen on the deal.  Funnily enough, the loss in market cap for the REA Group is roughly the same as the jump in market cap for Rightmove.

Why is the REA Group contemplating an offer?

The short answer is arbitrage: the mismatch in how stock markets value these shares. In Australia, the REA Group is trading at a considerably higher revenue and EBITDA multiple than Rightmove. The Rightmove share price has been depressed by the local housing market and the perceived increase in competition from OnTheMarket (owned by CoStar).

Therefore, in any scrip-for-scrip deal (or cash if money must be raised), REA Group would essentially be using more valuable shares to pay for lower-valued shares.  

One challenge in paying for the acquisition is the dilutive impact on the existing shareholders–in particular News Corp which owns circa 63%  of REA. If the deal does happen, they will either have to invest a fair amount of cash into the REA Group to maintain their shareholding or dilute their shareholder to less than 50%.

In its market release, REA says it "sees a transformational opportunity to apply its globally leading capabilities and expertise to enhance customer and consumer value across the combined portfolio and to create a global and diversified digital property company, with number 1 positions in Australia and the UK."

This raises questions about what global leading capabilities it has.  The underlying reason the REA Group is so large in Australia is the unique characteristics of the 60-year-old vendor-paid marketing culture in Australia. This does not exist in the UK and is highly unlikely to ever be accepted by the market–so changing the underlying model will be challenging.

Therefore, it is extremely unlikely that the REA Group will bring material extra value to Rightmove.

The markets are different in several ways (I know as when I was CEO of the REA Group, we owned Propertyfinder in the UK)–commissions are higher in Australia, agents in the UK pay for advertising out of their pocket (not vendor paid advertising), the competition in the UK is more intense (Zoopla and CoStar/OnTheMarket), and the underlying housing market economic characteristics are quite different.

Finally, Rightmove is already operating at a 70%+ EBITDA margin so squeezing more value from the business will be very unlikely. 

What is unknown is how CoStar could react … perhaps another bidder may emerge.

The bottom line is that big companies need to do big deals to make a big difference to their share price. However, doing the deal does not guarantee value will be created for REA Group shareholders.  

Perhaps it is time to short the Rightmove stock!