Monday, August 2, 2010
We like to follow situations with many moving parts. While they get the job done, there’s really not much to some (a distinct minority) of the deals out there. A large private equity firm is buying a small box manufacturer. Say it’s a $200 million transaction. There’s no financing risk, it’s safe from a regulatory standpoint, valuation is fair, and it was decently shopped. Sure, we’re not against putting that in the portfolio (assuming we cannot fill it with better risk-reward scenarios), but that 2% spread we captured in three months is not the most didactic experience. Fortunately, there’s a current situation from which we can learn and also apply our knowledge. It involves an unsolicited bid, questionable strategy on the offensive side, and takeover defense tactics. Let's take a look at this risk arbitrage situation.
On April 9, Alimentation Couche-Tard Inc (ATD/B CN) announced that it submitted a proposal to acquire Casey's General Stores Inc (CASY) for $36/share in cash. CASY operates convenience stores in the Midwest. ATD is the largest independent convenience store operator in North America. The $1.9 billion offer was a 14% premium to CASY's April 8 closing price, and valued the company at 7.4x LTM EBITDA, or about $1.3 million per store. In the letter that ATD sent to the CASY board it was disclosed that "repeated efforts" to engage in deal discussions began in October 2009, and ATD said that if CASY continues to refuse negotiations, then they are prepared to commence a proxy contest to replace the board. CASY's share price closed at $39.10/share for a -8% spread.
CASY, of course, again rejected the proposal, which it called "opportunistic". About a week after the unsolicited offer was made, CASY implemented a shareholder rights plan (poison pill) with a one-year expiration and a 15% threshold. Technically, this is a reinstatement of the pill, since it was adopted in 1989 and allowed to expire in 2009. ATD commenced a tender offer on June 2 and announced its intention to nominate a full slate (nine) of directors to the CASY.
In early June, the Wall Street Journal brought to light that ATD had sold its entire 4% position in CASY for an average price of $38.43/share on April 9, the same day it made its $36/share offer, for a $13.9 million profit. Now, this is just in poor taste. If ATD thought that $36/share was a full price (the highest it will pay) for CASY, then it was ill-advised to come out with this as its first offer. As we've said before, agreements are never reached at the initial price of an unsolicited proposal. Since ATD has done transactions before, one can assume that they know the rules of the road. In short, it's bad deal etiquette, and likely to upset CASY. Sure enough, CASY filed suit on June 11 in the Southern District of Iowa, alleging that ATD manipulated the market and violated securities laws with its activity in CASY shares. ATD said that the lawsuit is entirely without merit and is designed to distract CASY shareholders from the real issue - ATD's "premium bid". A weak response, admittedly, but we'll let the courts determine that area.
On June 28, ClearBridge Advisors (1.6% CASY stake) sent a letter to CASY urging them to engage in formal negotiations with ATD with respect to the $36/share offer. Anything less, ClearBridge argued, gives the impression that independence, not the maximization of shareholder value, is the board's highest priority. On July 12, ATD's tender offer was extended to August 6, after 19% of shares were tendered at $36/share. CASY responded "The low number of shares tendered reflects what Casey's has heard from many shareholders -- that this hostile, highly conditional offer is inadequate. The response of our shareholders to Couche-Tard's tender offer speaks for itself. We believe that our shareholders recognize Casey's industry-leading performance and superior value potential. The Casey's Board reiterates its recommendation that shareholders not tender their shares into the offer." CASY is a bit off with this comment, since a 19% acceptance rate for a low-ball bid is unusually high, but those who did tender likely did so as a referendum for an eventual deal, instead of approving the $36/share price.
On July 22, ATD increased its offer from $36 to $36.75/share in another (the first being the sale of CASY shares after the offer was made) move that makes one wonder what ATD's thinking is on this deal. The increase is insignificant, as nothing under $40/share would be the basis for an agreement. If ATD is seeking to negotiate with CASY, as it publicly stated, then it has made shoddy attempts at doing so.
On July 28, CASY announced that its board approved a $500 million recapitalization plan to be executed through a modified Dutch auction (self-tender offer) for a price of $38 to $40/share, to be funded by a combination of debt financing and available cash. CASY also rejected the $36.75/share offer from ATD, saying that the buyback of approximately 25% of its own shares is a better investment. CASY CEO, Robert Myers, said "the bottom line is that Casey’s shareholders will receive far more value from our accretive recapitalization plan and the substantial future upside of our growing company than through Couche-Tard’s inadequate, self-serving offer.”
Make no mistake, the recapitalization is purely a takeover defense mechanism, and not done just because CASY saw an attractive investment opportunity. If it were done solely for the latter, why didn't CASY launch the recap at $33 to $34/share before the ATD offer when its stock was trading around $31/share? That would have been a much better investment. While it is possible that CASY remains independent, the recap does place a price floor on a buyout. If CASY is willing to buy a quarter of its shares for $40/each, then an outside party will certainly have to beat that figure if it wants acceptance from CASY holders.