Standard Pacific and Ryland: Does The Merger Make Sense?

Standard Pacific Corp.

and Ryland Group Inc.

announced a merger of equals Monday morning. The combination of the two companies will likely result in the fourth largest home builder in the nation. In a joint press release, SPF and RYL announced the deal as an effort to increase market penetration and take advantage of the companies' differing areas of specialization. Neither firm's stock has moved much today following the news. Analysts around the Street have weighed in to offer their insights into the merger. Megan McGrath, MKM Partners In a report published Monday, McGrath reiterated a rating of Neutral on Ryland Group, calling the merger "a fair deal for RYL shareholders." According to McGrath, the combination of the companies demonstrates confidence from management that the housing market would be healthy over the next few years. On the other hand, she says, it could suggest that Standard Pacific and Ryland Group execs don't think the market has enough upside to result in meaningful growth without M&A activity. Indeed, she believes that the demand slowdown from last year still hasn't led to downward price adjustments in real estate market. The high price tags may have prompted the merger by preventing the companies from closing enough deals with prospective home buyers on their own, says McGrath. From a geographic perspective, she thinks Standard Pacific benefited more from the deal. According to her, SPF will now have a presence in 10 states in which it didn't previously operate. Jay McCanless, Sterne Agee CRT In a report published yesterday, McCanless reiterated a Buy rating on RYL and a Neutral rating on SPF. He believes the deal should be "positive insofar as SPF and RYL are two well-run builders that should be stronger competitors as a merged entity." McCanless estimates pre-tax cost synergies of $50 million to $70 million for the two companies. He believes these benefits will be felt starting in 2016. According to McCanless, Ryland Group is appropriately valued by the market given the terms of the deal. Thus he advises investors to steer clear of the home builder for now as they look for stocks to consider in the real estate market. Michael Dahl, Credit Suisse In a pair of reports published Tuesday, Dahl upgraded Ryland Group to Neutral, raising his price target on the stock from $37.00 to $48.40. Meanwhile, he downgraded Standard Pacific to Neutral. Dahl notes that under the terms of the deal, one RYL share is now set at a fixed value of 5.0957 shares of common SPF stock. This links Ryland stock to underlying Standard Pacific performance. Since Dahl is maintaining a price target of $9.50 for SPF, he is raising his price target for RYL to $48.40 to reflect the newly established fixed exchange ratio. From Standard Pacific's perspective, Dahl is less optimistic. While he recognizes the strategic reasoning behind the deal, he thinks that the risk outweighs the reward. According to his calculations, benefits from synergies will be offset by inventory write-ups and integrations costs. He says that the deal leaves SPF little room for error, since the benefits of the merger won't be felt for at least 18 months. Wilkes Graham, Compass Point Research And Trading In a report published Tuesday, Wilkes reiterated Neutral ratings for both SPF and RYL, maintaining price targets of $9 and $47 respectively. In his words, the "merger of equals makes sense, but upside is limited." According to Wilkes, the two companies overlap significantly both geographically and in terms of price point. Thus, he says they should be able to amplify their scale while achieving synergies that should "make this transaction work for investors." He believes that the combination result in 10 to 15 percent higher valuations for Standard Pacific and Ryland relative to current share prices. Wilkes believes SPF shareholders stand to gain slightly more, since they will own 59 percent of the new business and since Standard Pacific stock is trading slightly lower than Ryland with respect to the combined valuation.