Cemex Strengthens the Mix

For years, US and European multinationals have gobbled up Latin American companies in their quest for high-growth markets. Now, the direction has shifted. In November, Mexico’s Cemex, the world’s third-largest cement maker, bought Houston-based Southdown, the second-largest US cement producer. After launching a tender offer of $73 per share, Cemex acquired 91.7% of Southdown for more than $2.4 billion. Lorenzo Zambrano, Cemex’s CEO, said in October that the company was interested in striking a “balance between our developed and developing-country markets.”

Zambrano visited Houston last April and told Clarence Comer, his counterpart at Southdown, that he would be interested in buying the company at $65 a share, an 8% premium over Southdown’s share price at that time. Comer rejected the offer, even though Southdown had been on the block since March, when it hired Lehman Brothers as its financial adviser.

After six months of talks, Cemex offered $68 to $72 a share for Southdown. Comer explicitly rejected anything below $70, and said he wasn’t sure that the board would even accept the higher offer.

By the end of September, Southdown’s stock had fallen to under $55 a share. Comer-who is now president and CEO of all Cemex’s US operations-said his board would agree to a deal if Cemex offered $73 a share, a 20% premium over the share price’s six-month average. Zambrano agreed to do so and a deal was struck.

Cemex is paying Southdown shareholders in cash. It raised $1.4 billion through a loan from Citigroup and the rest through a bridge equity facility from Chase Manhattan and Deutsche Bank involving the issuance of preferred shares in the company’s Spanish subsidiary, Valenciana.

Adolfo Ríos, co-head of the Latin American mergers and acquisitions at Salomon Smith Barney, which advised Cemex on the merger, says industry acquisitions have been at multiples of between 8.1 and 9.6 times the target company’s earnings before interest, taxes, depreciation and amortization (EBITDA). Cemex paid just 6.8 times EBITDA for Southdown.

The addition of Southdown’s facilities to Cemex’s burgeoning portfolio of worldwide cement operations will speed the pace of industry consolidation and immediately boost the company’s free cash flow and earnings per share.

The Southdown acquisition brings the US share of Cemex’s EBITDA up to 22% from just 6%, and gives Cemex 29% of its production capacity in developed markets, up from 18%.

Standard&Poor’s, which rates Cemex above Mexico’s sovereign ceiling, kept the company at its BBB- investment-grade credit rating even after Cemex increased its leverage to pay for Southdown. But S&P put Cemex on credit watch with a negative outlook. It warned that Cemex’s “decision to pursue a major debt-financed acquisition that strains cash flow protection measures and limits financial flexibility.”

“Southdown was an under-leveraged company,” says Ríos. “Cemex is financing this acquisition through leveraging the balance sheet of the target company.” Citigroup’s $1.4 billion loan was supported by Southdown’s assets, and the bank didn’t increase its exposure to emerging markets: the borrower of record is a subsidiary of Valenciana, which runs Cemex’s non-Mexican operations.

The $1.5 billion financing from Chase Manhattan and Deutsche Bank is an innovative, but riskier strategy. The equity swap facility involves the issuance of preferred shares in Valenciana. The financing is basically an advance against the proceeds of a planned $1 billion to $1.5 billion Valenciana IPO slated for 2001. S&P’s said it would lower Cemex’s rating to speculative grade if the Valenciana IPO does not conclude as planned. LF