In the past few months, we’ve seen two big acquisitions involving ASX building products heavyweights. On the surface, the James Hardie-AZEK and Soul Patts-Brickworks deals share similarities: transformative takeovers, at a similar time, in the same industry. But the market reactions couldn’t have been more different.

When Soul Patts announced it would merge with Brickworks (essentially an acquisition), its shares surged 16%. Brickworks too shot up almost 25% on the day. Contrast that with James Hardie, which only weeks earlier saw a quarter of its market cap erased on news it would acquire AZEK, a US-listed decking manufacturer.

Two deals, and two vastly different verdicts from the market. Why?

Valuation plays a role, but there’s probably more to it. Perhaps the bigger factor is governance—specifically, how each company communicated with shareholders and exercised judgment in capital allocation.

James Hardie: Hefty price tag and governance red flag

Let’s begin with James Hardie’s acquisition of AZEK, announced 24 March.

On paper, the tie-up adds a leading player in US composite decking to Hardie’s portfolio, broadening its reach beyond fibre cement siding. In pitching the deal to shareholders, management cited the potential for cost savings and cross-selling opportunities. It’s a big acquisition, valuing AZEK at around USD 7 billion, more than half of Hardie’s pre-announcement market cap.

If all purported cross-selling opportunities materialise, the deal washes its face. But we’ve reconsidered the likelihood this will happen. We agree there are opportunities here for Hardie’s vast network of contractors to bundle the two products together: both have similar qualities, including a wide range of colours and textures, durability, extended warranties, low maintenance, and environmental sustainability. However, AZEK has more competitors, and we estimate average sales per contracted job are lower compared with siding, making it a harder and potentially less profitable sell for Hardie’s salespeople.

And then there’s the matter of shareholder oversight, or lack thereof. James Hardie secured a waiver from ASX rules that would normally require a shareholder vote, given the scale of the new equity issuance. That has understandably drawn criticism. Capital allocation decisions of this magnitude should involve shareholder input.

Adding to this, the company announced it would shift its primary listing to New York. While it will retain a secondary listing on the ASX, this sparked concern it may eventually delist from Australian boards altogether. Subsequently, in a small win for shareholders, management agreed to seek their approval before pursuing such a move.

The market’s reaction speaks volumes and boils down to more than just the price tag of the deal. It’s also about trust, which, in this case, took a big hit.

Soul Patts fixes a long-standing flaw, opportunistically

Now consider Soul Patts’ acquisition of Brickworks, announced Monday.

For decades, the two companies have been entangled in perhaps the most idiosyncratic governance structure on the ASX: a cross-shareholding arrangement dating back to the 1960s. Initially designed as a defensive measure against hostile takeovers, each company took a large stake in the other. Although this has allowed both businesses to operate largely free from the pressures of market short-termism, it has become increasingly problematic, complicating valuation and constraining liquidity.

The proposed merger solves the governance issue by collapsing the cross-shareholding. Shareholders of both companies become part-owners in a larger entity. Liquidity improves, free float expands, and the merged firm may find itself on the radar of ASX 50-tracking passive funds.

I don’t think the timing is coincidental. Before the deal was announced, Brickworks was trading at a material discount to our fair value estimate, almost 15%. Meanwhile, Soul Patts was at a 6% premium. The wedge in valuation, based on our estimates, was the widest it has been in years. So, Soul Patts is using its premium-rated shares to acquire Brickworks at a discount. Opportunistic, though that’s what we should expect from a value-oriented investment house.

So why did Brickworks shares jump almost 24% on the day the deal was announced, if, as we surmise, it undervalues the business? Well, there aren’t any material synergies here—even Soul Patts takes that view—so it can’t be the fundamentals. Instead, it probably reflects the value of the governance fix. Brickworks’ minority shareholders are effectively paying to escape a convoluted, opaque ownership structure.

Would we call it a good deal on valuation grounds? No. But would we advocate Brickworks shareholders vote in favour? Quite possibly, though we will wait until we see a scheme booklet to make a final call. Good governance isn’t easy to price, but it still adds value. And in this case, the market seems to agree.

The investment case, post-deal

From a governance perspective, we’ve got one deal done right, and another done wrong. That goes a long way to understanding why the market reacted the way it did. But in the aftermath, how do we see valuations of these companies? Subscribers can read on using the links below.

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