Outlook: Why Smiths will have to look again

WH Smith has made two serious misjudgements in the last week's stand- off with Tim Waterstone. It thought that if it told him to go away and forget his ludicrous proposals, he would shrug his shoulders and go home. The company underestimated the determination that almost two decades of rancour can engender.

It has also misjudged the willingness of its owners to turn a blind eye to a truly pathetic share price performance since last summer. Since August last year, the shares have fallen by 23 per cent, underperforming the rest of the market in that time by over 40 per cent. Blithely to reject all proposals in these circumstances suggests wholly unjustified arrogance.

It is hardly surprising that investors have been willing this week to do what Richard Handover and friends have resolutely refused to - sit down with Mr Waterstone and hear what he has to say. It is no less surprising that many of them have subsequently picked up the phone and told the company to get its act together and do the same.

There is little doubt that the proposals as reported offer rather more to Mr Waterstone and SBC Warburg than to shareholders, and they should and will be improved. In any circumstances, a premium for control of perhaps 30 per cent is reasonable - after such dramatic underperformance it is a bare minimum.

The acquisition of Daisy & Tom for an undefined but probably inflated figure also looks silly, even though it may have been no more than a ruse by SBC to get Mr Waterstone on board. Furthermore, the warrants look a pretty generous reward for a plan which is hardly rocket science.

For the risk averse fund manager, the final straw for the Warburg plan as presented is the way it combines the retailer's inherent operational gearing with a sizeable slice of financial leverage as well.

So the plan needs changing. Having sounded out shareholders, the Waterstone camp is now in a position to put something more realistic on the table. Only that will make Smiths drop its ridiculous pretence that it can carry on as if nothing had happened.

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