Was This Acquisition Made for All the Wrong Reasons?

This could be yet another example of a company paying up for growth.

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On Tuesday, Montréal-based Transcontinental Inc. (TSX:TCL.A) reported earnings for the first quarter of 2013. While revenues sunk 5%, earnings were flat on an adjusted basis, and the company raised its dividend by 10%. The shares now yield just over 4%.

But the headline-grabbing news was an announcement that the company agreed to acquire Capri Packaging, an American printed flexible packaging manufacturer, for U.S. $133 million. The deal size is of no small significance to Transcontinental, representing more than 10% of the company’s market capitalization.

Transcontinental is stepping into uncharted waters to an extent – flexible packaging is a business the company is not currently involved with. But Transcontinental sees a natural fit with Capri’s operations, since the production process is very similar to Transcontinental’s traditional printing business.

Transcontinental CEO François Olivier is very excited about the new business line. In a statement, he said “This acquisition represents an important strategic move for the Corporation into a new promising growth area. It is part of our strategy to ensure our future growth path through diversification.”

Dubious circumstances

Transcontinental is Canada’s largest printer, making money from magazines, books, flyers, and newspapers. It is also the largest door-to-door distributor of printed advertising in Canada, printing flyers for companies such as Loblaw Companies (TSX:L) and Canadian Tire (TSX:CTC.A). In recent years Transcontinental has come under pressure from digital competition, contributing to revenue declines like the one announced Tuesday.

Transcontinental seems to be making the acquisition in an effort to reignite growth, and Mr. Olivier’s comments support that claim. As he put it, “Printing is not a growth business and media is a transformation business. Packaging for food is evolving, but there’s no such thing as a digital transformation and there’s growth every year.”

Transcontinental also seems to be paying a high price for Capri. The $133 million purchase price gives Transcontinental two plants with a total of $72 million in annual revenue. The 1.85x price-revenue multiple seems high; by comparison, Transcontinental trades at 0.8 times revenue.

Foolish bottom line

Acquisitions should never be made just for growth’s sake, and so far it appears that’s what Transcontinental did. It also appears that Transcontinental paid a premium price for a company in a new industry. If Transcontinental did this transaction just to offset declining revenue in its traditional business lines, then the company likely destroyed shareholder value.

It’s little wonder that Transcontinental’s shares are down more than 2% on the day. And despite the cheaper stock price, investors are likely better off staying on the sidelines.

This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium service or advisor. We’re Motley! Questioning an investing thesis — even one of our own — helps us all think critically about investing and make decisions that help us become smarter, happier, and richer, so we sometimes publish articles that may not be in line with recommendations, rankings or other content.

Fool contributor Benjamin Sinclair holds no positions in any of the stocks mentioned in this article.

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