Watson Wyatt shares slide, deal concerns cited

NEW YORK (Reuters) - Consulting firm Watson Wyatt Worldwide's shares tumbled nearly 8 percent on Monday on its planned takeover of Towers Perrin Forster & Crosby, as analysts worried about risks of putting the two firms together.

The deal, announced late Sunday, was valued by the companies at $3.5 billion, and Stifel Nicolaus analysts said it would create the biggest human resources consultancy in the world.

But the companies said it will take three years to achieve savings of $80 million through job cuts and the streamlining of overlapping operations, and analysts fretted that things could go wrong in that time.

"Over three years, the combined entity will likely be internally focused and a major integration like this in a people-based business is fraught with risks," Citi analyst Ashwin Shirvaikar wrote in a research note.

Near-term disruption from the merger might also help competitors, although Stifel Nicolaus analysts added that in the longer term "we expect the combined entity to be a more formidable competitor."

The combined company, Towers Watson & Co, will be a more powerful rival to businesses such as Hewitt Associates and Mercer, a subsidiary of Marsh & McLennan Companies , during a time when clients have curbed discretionary spending.

The deal was in the works for more than a year and driven by strategic reasons, said a source familiar with the matter, who asked not to be named because he was not authorized to speak publicly about the deal.

Watson Wyatt is paying roughly six times earnings before interest, taxes, depreciation and amortization (EBITDA), the source said, adding that valuation was not a major issue during negotiations.

That valuation is a little lower than historical multiples, which according to a UBS research note has been 6.5 times.

INTEGRATION RISK

The deal will take three years for Towers Perrin to add to Watson Wyatt's earnings on a GAAP basis, and two years on an adjusted earnings per-share basis, Roger Millay, Watson Wyatt's chief financial officer, said on a conference call.

A three-year path to boost earnings could imply a difficult integration, while there could be a net exodus of talent, Citi's

Shirvaikar wrote.

Integration and deal costs are likely to lower earnings per share and cash flow, thereby making the valuation less interesting, he said, while the integration could also offer rivals some competitive opportunities in the interim. He downgraded Watson Wyatt to "hold" from "buy" and lowered his target price by a dollar to $46 a share.

On a conference call on Monday morning, one executive said the companies do not expect regulatory issues with combining the two firms.

But Shirvaikar said the deal could present rivals such as Hewitt with the opportunity to buy assets that the companies may have to sell off to allay antitrust concerns. Rival firms might also lure any employees who are unhappy about the merger.

"We would look for a net exodus of talent and relationships from Towers Watson to others in the industry like Hewitt and Mercer," he said.

Watson Wyatt's shares closed down $3.18 or 7.7 percent at $38 on Monday.

(Reporting by Megan Davies and Paritosh Bansal, editing by Matthew Lewis)