Merger Arbitrage. Kirchner Thomas

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СКАЧАТЬ information becomes known, such as the announcement of the dividend date or the exact amount, arbs must update their spreadsheets promptly.

      Arbitrageurs must be aware of a few limitations of this approach:

      • The returns calculated are projections that are highly dependent on the date of the closing of the merger. A delay can quickly lower the return on the investment.

      • The projections say nothing about the path that the investment takes on its way to closing. Sometimes, following an initial spike after the merger announcement, a target company's stock weakens. An arbitrageur will then have to book a temporary loss on the investment. Of course, this marked-to-market loss will be reversed eventually when the merger closes. However, the projection cannot make a prediction on the trading dynamics of the stock between purchase and merger closing.

      Stock-for-Stock Mergers

      Stock-for-stock mergers are more complicated than cash mergers. In stock-for-stock mergers, a buyer proposes to acquire a target by paying in shares rather than cash. Sometimes the consideration paid can be a combination of stock and cash. That case is addressed later.

A good example of a stock-for-stock merger announcement is shown in Exhibit 2.2. It is the $4 billion acquisition of Australian gold miner CGI Mining Ltd by Canada's B2Gold Corp, announced in September 2012.

Exhibit 2.2 Merger Announcement for CGI Mining Ltd and B2Gold Corp

      VANCOUVER, BRITISH COLUMBIA–(Marketwire – Sept. 19, 2012) – B2Gold Corp. (TSX: BTO)(OTCQX: BGLPF)(PINKSHEETS: BGLPF)(NAMIBIAN:B2G) (“B2Gold”) and CGA Mining Limited (TSX: CGA)(ASX: CGX) (“CGA”) are pleased to announce that they have entered into a definitive Merger Implementation Agreement (“Merger Agreement”) to combine the two companies at the agreed exchange ratio of 0.74 B2Gold common shares for each CGA share held, which represents a purchase price of approximately C$3.18 per CGA share and a premium of 22 % using the 20 day volume weighted average share price of each respective company, and a 26 % premium over the CGA closing share price on September 17, 2012 based on the closing price for the B2Gold shares as of such date. The transaction is valued at approximately C$1.1 billion.

      The merger will be implemented by way of a Scheme of Arrangement under the Australian Corporations Act 2001 (“Scheme”). Upon completion of the Scheme, existing B2Gold shareholders and CGA shareholders will own approximately 62 % and 38 %, respectively, of the issued common shares of the combined company.

      […]

      Transaction Structure and Terms

      […]

      The merger is subject to regulatory, Australian Court, shareholder, and third party approvals, together with other customary conditions. Regulatory approvals include approval by the Australian Foreign Investment Review Board, and ASX and TSX approvals in respect of the issue of new B2Gold shares under the Scheme and as consideration for the cancellation of the CGA options.

      A Scheme Booklet setting out the terms of the Scheme, Independent Expert's Report and the reasons for the CGA Directors' recommendations is expected to be circulated to all CGA shareholders. A meeting of CGA shareholders to consider the Scheme is expected to be held later in the year and the Scheme is expected to be implemented shortly thereafter. The Scheme is conditional upon approval by 75 % of the number of votes cast, and 50 % of the number of CGA shareholders present and voting, at the meeting of CGA shareholders.

      In addition to the approval by CGA shareholders, the Scheme is conditional upon B2Gold shareholders approving the issuance of B2Gold shares that will be issued in connection with the Scheme and the cancellation of the CGA options by a simple majority of the B2Gold shares that are voted at a shareholder meeting to be held in reasonable proximity to the CGA shareholder vote.

      The Merger Agreement also contains customary and reciprocal deal protection mechanisms, including no shop and no talk provisions, matching and notification rights in the event of a competing proposal and a mutual reimbursement fee payable by B2Gold or CGA in specified circumstances.

      In this case, B2Gold is the buyer, CGA the target, and the per share consideration is no longer a fixed cash amount but a fixed number of B2Gold shares. Shareholders of CGA will receive 0.74 shares of B2Gold for each share of CGA that they hold. The number 0.74 is referred to as the exchange ratio or conversion factor.

      The dollar amount of C$3.18 mentioned in the press release refers to the value of the merger on the day before the announcement. This amount is calculated simply by multiplying the closing price of B2Gold's stock of C$4.30 on September 18, the last trading day before the announcement, by the conversion factor of 0.74. It is not the value that shareholders will receive at the closing of the merger. The value will vary with the stock price of B2Gold. This distinction is important, because unlike in the case of a cash merger, arbitrageurs face an uncertain dollar value at the time of closing that will vary with B2Gold's stock price. Therefore, they cannot just buy the stock of the target CGA and wait for the merger to close.

      The naive approach would be to purchase CGA stock and wait for the merger to consummate. The investor would receive 0.74 shares of B2Gold that it would then need to sell at the prevailing market price, which could be higher or lower. There is no arbitrage in such a transaction. Recall that one of the elements of the definition of arbitrage was that a purchase and sale occur simultaneously. Holding a stock and waiting to sell it for a higher price is speculation, not arbitrage.

      Instead, arbitrageurs must lock in the value of the transaction through a short sale. For readers new to short sales, a brief explanation is given here. Additional aspects of short sales are discussed in Chapter 14.

      Short Sales

      Most investors will only buy stocks and sell stocks that they bought previously and hold in their portfolio at the time of the sale. Selling short differs from a normal sale mainly through the timing of the purchase. A short sale is done before the stock is acquired. If a stock declines in value, a short seller will make a profit; if a stock increases in value, the short seller will suffer a loss.

      An important component in short selling is the delivery of the stock to the buyer. The buyer is unaware that the stock has been sold short and rightfully expects delivery. In order to make delivery of the stock, the short seller must borrow it from someone who owns it. Most brokerages and clearing firms offer their customers the ability to borrow stock. Online discount brokerages generally have fully automated systems to locate stocks that can be borrowed for their customers. If the stock cannot be borrowed, it cannot be sold short, and the brokerage will inform the customer. In return for lending out the stock, the lender demands a fee, which the arbitrageur must factor into the calculation. This will be discussed later.

      The process of closing the short sale – that is, buying back the shares that have been shorted – is a buy-to-cover transaction.

      Sometimes the lender of a stock requests its return, for example, if the stock is to be sold. In that case, the customer must either buy to cover or the broker will do a buy-in, meaning that the broker places the buy-to-cover order. If an investor is served with a notice of an upcoming buy-in, it is always better to buy the stock oneself and maintain control over the order than to let the broker execute a buy-in.

      Selling short is sometimes portrayed as illegal, dishonest, or un-American. However, in financial markets, arbitrage would not be possible without short selling. Arbitrage involves the simultaneous sale of an asset identical to the one acquired; in many instances, this is possible only through short sales. If there were no arbitrage in financial markets, many products would not be priced correctly, and investors might overpay.

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