Sherwin-Williams' (NYSE:SHW) hopes of expanding its presence in Latin America by purchasing the operations of Mexico's largest paint supplier, Consorcio Comex SA, came undone last week after the paint giant said it was ending the $2.3 billion deal. Although the paint and coatings specialist's stock has retreated since the news broke, investors shouldn't be surprised to see Sherwin-Williams benefit from the setback.
With 3,300 paint stores operated by concessionaires, entities comparable to franchises, Comex is Mexico's largest paint company and is second in size in the region only to Sherwin-Williams itself, which has nearly 3,900 stores. It was largely the combined size of the two industry giants that worried Mexico's Federal Economic Competition Commission who twice rebuffed the U.S. paint specialist over fears its 50% market share would make it eight times larger than its nearest competitor and allow it to suffocate the country's smaller companies.
While the U.S. paint company began crafting a plan to divest certain assets to address the antitrust regulator's concerns, it was surprised to receive notice from Comex on April 1 accusing Sherwin-Williams of failing to use "commercially reasonable efforts" to complete the deal, a charge that would mean it breached its agreement and suggests there were undercurrents of tension that might have caused a larger rift had the deal been consummated.
It's not uncommon for very large acquisitions to go off the rails as vaunted "synergies" fail to materialize and disparate corporate cultures get in the way. Indeed, according to Stephen Paulone, director of graduate business programs for the Malcolm Baldrige School of Business at Post University, anywhere from 50% to 75% of all mergers fail to add any value. Considering Sherwin-Williams would have tripled its debt-to-EBITDA and reduced share buybacks, though it would have maintained its dividend, it's possible this deal would have gone awry as well.
The unwinding of the acquisition, though, allows rivals to try their hand at making the deal work. Some analysts think PPG Industries (NYSE:PPG) would be a logical choice, adding perhaps as much as $0.80 per share to its earnings, about half of the $1.50 per share Sherwin-Williams was expected to add.
Just last month, PPG ended its relationship with Comex to have it sell and service its Amercoat brand, choosing to do so itself directly instead. It made a similar announcement last year about its Canadian business as Sherwin-Williams was to buy Comex's U.S. and Canada operations for $165 million (which it will keep despite the breakup over the Mexican assets), and may point to PPG believing Sherwin-Williams would consummate the union. But with its rival now out of the way, PPG could decide to move back in.
Free of the Comex deal, however, Sherwin-Williams also looks strong. While I retain a healthy skepticism about the ability of the economy (and the stock market) to keep going as it has, consumer confidence remains relatively high, input costs for paint -- particularly titanium dioxide -- have stabilized, and homebuilders are reporting growing profits, all of which means Sherwin-Williams own profits should continue their meteoric climb. There may be other smaller targets in Mexico to pursue, too.
Despite the recent pullback, the paint specialist's stock is up 18% from last year, 72% higher over the past two years, and has more than tripled in value over the last five years. That doesn't mean it can't still keep growing, and though investors are expressing concern over the Comex deal, I think its collapse is in Sherwin-Williams' best interest and colors it in a better light.