WH Smith put on the spot by Permira bid

375p-a-share indicative offer may trigger auction for struggling high street stalwart
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The board of WH Smith will meet today to discuss a possible 375p a share cash offer to take the company private. But while the group's long-suffering shareholders may well be delighted with a potential opportunity to cash in at a 44 per cent premium to Friday's closing share price, the board is unlikely to roll over so quickly.

The board of WH Smith will meet today to discuss a possible 375p a share cash offer to take the company private. But while the group's long-suffering shareholders may well be delighted with a potential opportunity to cash in at a 44 per cent premium to Friday's closing share price, the board is unlikely to roll over so quickly.

Permira, the private equity house, must hope it has dealt a knock-out blow with its possible offer that prices the company at about £940m. Shares in the group shot up 35 per cent yesterday following news at the weekend that Permira had made an approach to close at 349.5p. The potential offer was seen by many as one they cannot refuse.

"If the offer is put to shareholders, we are sure that they will bite their arms off," Nick Bubb, analyst at Evolution Beeson Gregory, said yesterday.

The initial Permira offer may seem over the top to some, but it has teamed up with two former WH Smith directors, Simon Burke and Keith Hammill, who must know the value of the company. Mr Burke is the former Hamley's toy shop chief executive and had a seat on the WH Smith board when he used to run its Virgin Our Price music business. Mr Hammill, the chairman of clothes chain Moss Bros, is a former finance director of Smith who left when he lost out on the chief executive position.

But the board has staked its faith on Kate Swann, who was given a golden hello of £1.2m when she joined in November from GUS, much to the fury of shareholders. It will not be at all pleased that Permira has stolen her thunder with this week's announcement.

Ms Swann has been undertaking an operational and financial review of the ailing retailer, and Thursday is her big day. It is her first outing at the helm and she will be trying to convince the City that she has, at last, got the winning formula to stem the group's fall in profitability.

"Shareholders should note that as the approach is preliminary and there are a number of pre-conditions to the making of any offer, there can be no certainty that an offer for the company will be made," a statement from the board said yesterday. Permira has yet to carry out any due diligence on the company.

Some analysts think that until the board has at least made a go of Ms Swann's proposals, it will hold out on Permira's approaches. "We suspect the board will reject the bid and hope to trade their way back to 375p. They will certainly want to see how the operational review to be announced on Thursday, goes down with the market," Mr Bubb said.

Half-year profits on Thursday are expected to come in at £65m, down from £91m in the same period last year, and a round of job cuts is also expected. Up to 300 positions are thought to be at stake at its head office.

But save a few job cuts, many in the City are sceptical that Ms Swann can achieve much improvement in the business, and a private equity deal would give them a healthy, unconditional exit. "This to us seems more than a generous offer, as we believe there is no easy fix for WH Smith," Richard Ratner at Seymour Pierce said.

Matthew McEachran, an analyst at Investec, said yesterday: "The offer, were it to be recommended, would give investors at least what they could get from a successful Swann-led turnaround, but without any of the execution risks and without the risk of any sector-driven downside."

Shareholders need some convincing that management can carry out a turnaround, let alone have the patience to wait for it to take place.

"It will take some time for the share price in the market to catch up with the improvements that may well be under way in the business," a source close to the potential bidders said. "Private equity has a more empirical way of valuing the business as you don't have to deal with market sentiment."

WH Smith was once a cornerstone of the high street and is still one of the best known names in British retailing. It delivers to 22,000 trade customers daily and has a 36 per cent share of wholesale magazine sales and 33 per cent of newspapers in the UK.

From its 54 distribution centres it serves independent newsagents as well as multiple retailers.

But Smith's sales have been under pressure from its supermarket rivals, online retailers and other music and book specialists for a number of years. They have undercut Smith's prices on books and CDs, and drawn away its traditional customer base, leaving it with the unpalatable business proposition of having "nothing special to offer". Many Smith's customers now buy only newspapers in its stores, which is not enough to grow the business.

Shareholders have got used to profits warnings - and the prospect of a dividend cut is also now looming large.

"The group has sufficient resources to maintain its dividend, but with possible plans of big store investment, it may look to conserve cash," analysts at Numis Securities said yesterday.

Less than two months after Ms Swann took over as chief executive in November, the company issued a severe profits warning after a dire Christmas trading period. Sales were flat and profit margins slid by 2 per cent after promotional gimmicks did not pay off.

Ms Swann blamed the layout of the stores for their poor sales. Gift products had been placed at the front, making it difficult for customers to find the more traditional items such as books and stationery they were looking for.

But she was credited with taking decisive action and sacked its head of UK retail, Beverley Hodson. Smith's has had to sell off its loss-making US division and is also now looking at an exit of its 207 stores in Asia.

Permira believes there is a future in the business, which can be achieved faster than the stock market would be willing to tolerate. It has long-held high street ambitions, which were laid bare during its battle for Debenhams. A takeover of Smith's would be its first return to major retailing since it sold Homebase two years ago.

A deal would also mark the move of yet another high street retailer into private hands. New Look, Selfridges, Harvey Nichols, Bhs and Arcadia are all now privately owned.

But Permira has taken steps to tackle accusations that it is attempting to pick up Smith's on the cheap - a common complaint that has scuppered a number of private equity deals. It is including an equity alternative in the bid plan, allowing shareholders to retain a stake in a separately listed company owning a minority of the shares.

The Permira interest may smoke out other potential bidders. There has been speculation that Tesco would mount a takeover bid. Three years ago, Smith's and Tesco planned to set up an exclusive national arrangement for distributing magazines but scrapped the idea after criticism from publishers and newsagents' representatives, who warned that small shops would face higher costs.

It is thought that other potential bidders have run slide rules over WH Smith during the past year, but they have been put off because the group has little freehold property to sell. The business has strong cash flow, but the stores are likely to need significant capital investment after years of cutbacks.