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>>> K+S suitor Potash Corp has legal options for jobs promises

Deal Reporter

K+S suitor Potash Corp has legal options for jobs promises - lawyers

• Business combination agreement could be used

• BaFin likely to closely monitor offer document promises if hostile

Potash Corporation [NYSE:POT] has legal options at its disposal to demonstrate commitment to K+S’ [ETR:SDF] German operations and employees, according to independent lawyers.

The German group’s rejection of Potash Corp’s EUR 41 per share proposal cited valuation, jobs and break-up concerns. The rejection gained support of German politicians after they had met with Potash Corp management to discuss the matter.

“The main problem with Potash Corp’s approach towards K+S is that they have given no contractual guarantees about safeguarding jobs and about preserving the company’s future activities in Germany,” said K+S employee representative Ralf Becker.

K+S directly employs 14,000 people globally, with 70% of its workforce in Germany. There are more than 30,000 direct and indirect jobs associated with K+S production in Germany, CEO Norbert Steiner said in his rejection statement.

Reports have speculated that Potash Corp is mainly interested in acquiring K+S for its Legacy Project in Saskatchewan, Canada, to limit the global supply of potash. This has led to concerns it would have little regard for the company’s higher-cost German operations.

Potash Corp has two options at its disposal to try and convince K+S it will protect jobs, a lawyer said. One is that it could use a binding business combination agreement in its offer. This can be used to safeguard jobs and operations for a period of between one and five years, a second lawyer said.

These agreements are typically used to outline matters like board composition, business strategy, head office location and the merged entity’s name. They are generally the hallmark of friendly, rather than hostile, deals, the first lawyer noted.

The companies are still thought to be in contact. K+S is seeking concrete commitments to ensure promises on German jobs are not broken, a person familiar said. K+S has also raised concern that Potash will sell its salt business post-acquisition.

One example of such an agreement is Bayer’s [ETR:BAYN] acquisition of Schering in 2006, the first lawyer said. Bayer agreed to treat Schering and Bayer employees equally when there were redundancies. A bidding war against a hostile Merck included Bayer indicating its deal would result in fewer job losses.

Schaeffler’s shareholder agreement with target Continental [FRA:CON] ended a hostile process with promises to protect the interests of employees and shareholders. However, in this case Schaeffler also agreed to limit its Continental stake to 49.9% for four years before being able to move for a full merger. The agreement was terminated in 2013.

The other option is that Potash Corp can merely outline its intentions on jobs in the offer document, although this is more difficult to legally enforce, said the first lawyer.

German law is designed to favour employees through full and adequate disclosure, the first lawyer said. In a hostile bid situation Germany’s Federal Financial Supervisory Authority, BaFin, would seek detailed disclosure on such issues and would monitor the situation closely, he said.

Despite its resistance on the jobs front, K+S’ management board does need to stay neutral due to its responsibilities also to shareholders, a lawyer familiar with the matter said. Ultimately, it will be up to K+S shareholders to decide on the bid, he said.

K+S’ US shareholders view the deal as a sensible option to consolidate in an oversupplied potash market, according to a person familiar with the German company. About 21% of K+S institutional investors were US-based at the end of 2014, according to the company’s latest annual report. This was greater than in Germany (18%).

With this in mind, Potash Corp may be more focused on securing the backing of the wider investment community, rather than on the jobs front, the lawyer familiar said. There have been cases of hostile approaches succeeding in Germany when there is employee opposition, such as ACS/Hochtief [ETR:HOT], he noted.

>>> Ubi Banca and Banco Popolare could raise capital in case of merger

Deal reporter

Ubi Banca and Banco Popolare could raise capital in case of merger

• Merger talks at an advanced stage – banker

• BP's NPL/total loans ratio weaker than peers – Dealreporter analytics

• UBI, BP NPL coverage ratio could be matter of concern

Ubi Banca [BIT:UBI] and Banco Popolare (BP) [BIT:BP] could seek to raise fresh capital if talks of a potential merger between the two italian co-operative banks succeed, said two sector bankers following the situation.

The banks are likely focused on eliminating any upfront risk arising from a merger, including a potential increase in impairments on the combined loan book, the first banker said.

Such thinking could lead to a capital increase following a tie-up, given both banks' balance sheets reveal weaknesses as they enter negotiations, the first banker noted. The size of the cash call would largely depend on the targeted capital ratios post merger, he added.

Pursuing a capital raise within the context of a merger or shortly afterwards could be the best way to make an attractive proposition to Ubi and BP investors, as the businesses' combination makes sense and creates substantial synergies, the bankers agreed. If the equity story is presented properly, the market could digest it, one of them noted.

The banks could present the recapitalisation as a way to sail through even the most challenging environment. It would entail the promise of rewarding shareholders with dividends if the worst-case scenario does not materialise and there is capital in excess, the first banker argued.

Any capital raise is likely to be done via a rights issue rather than through equity-linked instruments or asset sales, a third sector banker said. Asset sale processes often take too long for the ever-changing European regulatory environment, he noted. Italian co-operative banks are widely perceived as too small and risky to tap the contingent convertible (CoCo) market, a credit strategist added.

The two lenders have started searching for partners earlier than other peers and merger negotiations are well advanced, the first banker said, citing visibility on the talks. Credit Suisse is thought to be working closely with Ubi, he added.

Ubi has yet to appoint an advisor, a person familiar with the bank said. Ubi declined to comment. Credit Suisse did not reply to a request for comment.

Meanwhile, BP publicly disclosed Mediobanca and BofA Merrill Lynch have been appointed to evaluate strategic options.

Capital snapshot

BP is worst placed among co-op banks on capital strength, according to the first two bankers. On the other hand, Ubi's capital position is regarded as generally strong with exceptions on certain metrics.

Banco Popolare is particularly weak in terms of asset quality, measured in non-performing loans (NPLs) against total loans, the first banker added. BP's NPL/total loans ratio stood at 7.52% compared to best-in-class Intesa Sanpaolo's [BIT:ISP] 4.2% as of 31 December 2014, according to Dealreporter analytics. This is despite having already executed a significant clean-up of its books, he noted.

BP's use of internal models to assess portfolio quality does not work in its favour as the regulator's review of such models is expected to lead to further deterioration of the quality of book, the first banker noted.

Internal models risk underestimating risk weighted assets (RWA), the third banker said. "The big question is how much BP's RWAs will increase after those changes," the first banker added.

BP's RWA/total assets ratio stood at 39% in FY14, against 41.7% for Intesa and up to 69.8% and 67.1% for Banco Popolare di Milano (BPM) [BIT:PMI] and Banca Popolare dell'Emilia Romagna (BPER) [BIT:BPE] respectively.

Ubi also uses an internal model to assess capital strength but it is less likely to be subject to regulatory pressure, given that its risk assessment methodology has proven sufficiently reliable in recent years, the first banker noted. Ubi's RWA/total assets stood at 50.7%.

Popolare's management has repeatedly defended its methodology, stressing the bank's numbers are sound even after required adjustments, a fourth banker noted. But the misalignment in RWAs' formula creates uncertainty, he noted.

Spokespeople for Banco Popolare did not reply to requests for comment.

At 74.4%, BP's NPL/equity ratio is also higher than the sector average and could require fixing, the first banker noted. Ubi’s, on the other hand, stands at a healthy 41.1%.

Unlike BP, Ubi has a solid NPL/total loans ratio of just 4.7%, the first banker noted. But its low NPL coverage ratio could be a matter of concern, he added.

The lender's NPL coverage ratio – assessed as net impairment losses on NPL/gross NPL – stood at 38.56% in FY14, compared to 62.7% for Intesa and 58.64% for BPER. BP does not look well-positioned on this metric either, with a ratio of 44.6%, according to Dealreporter analytics.

With NPL coverage being a particularly meaningful indicator, low coverage should be addressed to avoid stricter requests by the regulator on CET 1, the third banker noted. If the lender has a particularly cautious policy on NPL coverage, the regulator could require a lower capital buffer, he added.

Following last year's wave of recapitalisations, most co-op banks show solid CET 1 ratios, the fourth banker noted. As of 31 December 2014, Ubi's phased-in CET 1 stood at 12.33%, BP's at 11.87%, BPM's at 11.58% and BPER's at 11.26%.