IHS Inc. (IHS), Pearson PLC (ADR) (PSO): The Company Looks to Strengthen its Information-Gathering Apparatus With Purchase

IHS Inc. (NYSE:IHS) has reportedly sealed up a deal to purchase the privately held firm that owns the fast-growing Carfax vehicle-information service. Known as RL Polk, the company is one of the foremost information-gathering specialists in the automotive industry and reaches millions of vehicle owners and buyers on an annual basis. Since IHS Inc. (NYSE:IHS) already has significant information-gathering and analytic operations in the automobile industry, this deal is apt to produce some incredible synergies. However, it is by no means a slam dunk.

IHS Inc (NYSE:IHS)

RL Polk deals directly with about 30,000 customers across North America. Most of its official clients are automobile dealers, credit providers and repair professionals. However, millions of individual car buyers commission its reports through these intermediaries. As such, the company’s service has tremendous name recognition. Investors who might naturally be interested in this deal should not overlook the intrinsic value of this superior branding operation.

IHS and its Closest Competitors

Like RL Polk, many of IHS Inc. (NYSE:IHS)’s direct competitors are privately owned. However, the company also competes with a few publicly-owned information-gathering services and analytics providers. Since these businesses engage in far-reaching, often nebulous activities, perfect comparisons may be elusive. The following financial analysis should provide a framework through which investors can judge IHS Inc. (NYSE:IHS)’s relative strength.

IHS Inc. (NYSE:IHS) is often mentioned in the same breath as Thomson Reuters Corporation (USA) (NYSE:TRI) and Pearson PLC (ADR) (NYSE:PSO). However, it is quite a bit smaller than either firm. Thomson Reuters Corporation (USA) (NYSE:TRI)’ market capitalization of over $27 billion exceeds that of IHS Inc. (NYSE:IHS) by a factor of four, and Pearson PLC (ADR) (NYSE:PSO)’s valuation is roughly double that of its Colorado-based competitor. IHS’s margins are roughly in line with those of its competitors. In 2012, the smaller company earned about $160 million on revenues of $1.6 billion. This compares with a haul of $455 million on $8.1 billion for Pearson PLC (ADR) (NYSE:PSO) and a take of $1.7 billion on $13.4 billion for Thomson Reuters Corporation (USA) (NYSE:TRI).

Surprisingly, these firms require a substantial amount of debt to fund their information-intensive operations. With a debt load of $7.5 billion and an emergency reserve of less than $530 million, Thomson Reuters Corporation (USA) (NYSE:TRI) has the most precarious balance sheet of the three. Fortunately, it has a healthy cash flow figure of $2.5 billion. Meanwhile, Pearson PLC (ADR) (NYSE:PSO) has long-term debts of $3.6 billion and cash reserves of $1.7 billion. IHS has obligations of just over $1 billion and a $320 million reserve. At 4.73, its price-to-book ratio is significantly higher than its competitors’ identical 1.65 figures.

How the Deal Will Occur

According to a release that accompanied its announcement, this deal will be financed with a mixture of IHS stock, hard cash and new credit facilities. While the total purchase price for RL Polk is expected to reach $1.4 billion, the exact figure will depend on the valuation of the IHS stock that the company’s private shareholders receive. Although a closing date has not been announced, the deal is expected to be finalized in a timely fashion.

What Will IHS Gain?

This deal will strengthen IHS’s finances and operational portfolio in several key ways. For starters, IHS’s management team expects RL Polk to add at least $400 million in annual revenue to its top line. Thanks to Carfax’s rapid growth, this figure is likely to grow at a brisk pace during the coming years.

From a strategic perspective, RL Polk offers a deeper foothold in the automotive-information industry and could turn IHS into a one-stop source for serious car buyers. While the process of searching for information about automobile makes and models is largely controlled by other firms, RL Polk’s Carfax asset has a stranglehold on the market for lifecycle reports on individual vehicles. Moreover, Carfax enjoys subscriber-renewal rates of up to 90 percent and has a simple operational structure that IHS is already planning to replicate in various overseas markets.

Potential Drawbacks and Other Issues

Although these synergies are quite persuasive, IHS’s current strategic and financial state should encourage investors to be cautious. The company currently trades near the high end of its historical range and carries an outsized multiple that is uncharacteristic for its industry. Many sober-minded observers argue that the company is trading at a premium to its true value. While few argue that IHS is a weak company, it seems to have been borne along by the recent rally in a manner that does not reflect its true fundamentals. The company is not a short candidate, but investors who find this deal intriguing may wish to wait for a pullback before entering.

Invest or Stay Away?

Investors clearly like the look of this deal. Shortly after its announcement, IHS’s shares popped by more than three percent. Since it is unusual for companies to rise significantly after announcing a debt-fueled acquisition, this performance is noteworthy. Investors who believe that this deal is a wise move for IHS should think about waiting for the above-mentioned pullback to initiate a long position.

In sum, this deal offers some clear synergies and could boost IHS’s revenues by a substantial margin. If the company manages its new Carfax asset correctly, hindsight may be very generous to the architects of this deal. On the other hand, IHS seems to be a bit overvalued and may be ripe for a pullback. Investors should use caution and perform their own due diligence.

Mike Thiessen has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. Mike is a member of The Motley Fool Blog Network — entries represent the personal opinion of the blogger and are not formally edited.

The article The Company Looks to Strengthen its Information-Gathering Apparatus With Purchase originally appeared on Fool.com is written by Mike Thiessen.

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