City Watch

When the Lords Hollick and Stevens appeared before a surprised City last week to announce the terms of the merger agreed between the two, they disclosed the valuations each had placed on the other’s company.

The City listened to their arguments, agreed with their calculations, and asked one or two pertinent questions about discounted cash flows and dividend cover. It promptly oversaw a flurry of dealing that at close of business left the MAI share price up 69p at 448p, seven per cent better than the merger terms announced that same morning.

There are a number of possible explanations. The first is that the City has convinced itself the deal is not going to happen. It has identified MAI as the more attractive of the two partners and reasoned that announcement of the merger will flush another suitor, and one with considerably deeper pockets, out into the open.

One of the more intriguing elements of the deal was the statement that the merged group would look to raise dividends, despite initially modest dividend cover of 1.6 times. As a company, United has traditionally been viewed by the City as an underperformer – resigned to the fact that its priceless newspaper assets of a few years ago are now looking frayed around the edges.

The Express and Sunday Express circulations have continued to fall for 35 years: the decline in the regional stable has been more recent in origin, but hardly less severe in effect. Partly because of this, United has opted to maintain a healthy yield, making itself more attractive to income funds.

Before the merger news leaked out, the stock was offering investors a prospective yield of about five per cent, against the 2.9 per cent average of the sector giants Carlton, Pearson and Reed.

This, in turn, helped maintain a healthy share price and meant the stock was rated at a slight premium to the sector average, at almost 16 times earnings, despite dull growth prospects.

MAI, with its high growth TV investments and its stake in Channel Five, offers better than average chances for growth – a fact that was reflected in its share price. Before the merger the group was trading at nearly 19 times earnings and yielding a respectable, but not excessive, 2.9 per cent.

Under the terms announced last week, the so-far unnamed new company would be yielding close to four per cent. United investors would be trading some of their dividend yield for the prospect of MAI’s TV-fuelled growth, while MAI investors should see the fact that their growth rate is slowed compensated by dividend income 37 per cent better.

It’s an extraordinary sweetener for a deal that would create a 3bn company in one of the most exciting stock market sectors. Add the safety net of a high-dividend yield to Lord Hollick’s proven flair for extracting value from seemingly moribund companies, and you have a deal that deserved the warm welcome it received. And if that fails to convince, there’s always the chance that someone will step in with a bigger and better offer.