PennantPark closes merger with MCG Capital

PennantPark Floating Rate Capital closed the merger with MCG Capital today. This was one of my higher conviction merger arbitrage idea’s, but it didn’t exactly work out. The higher HC2 bid fell through while PFLT started trading at a discount to NAV. As a result, MCGC shareholders will receive approximately $4.37 value in share according to my calculations, based on PFLT trading at $12.90/share. I managed to exit a little bit higher than that, but the result is a very small loss despite the merger actually going through (can’t complain though since it is less than 4bps).

With PFLT now trading at a 10% discount it might actually be a decent long. Historically it has been trading right around NAV, and now that it is bigger it should, in theory, have some economies of scale and be a bit better as well. I’m not really interested in buying something at a 10% discount, but it is probably not a terrible idea.

Disclosure

No position in MCGC or PFLT

Make more than 65% with the ROIQ warrants

ROI Acquisition Corp. II is a blank check company that consummated an IPO on September 20, 2013 that raised $125 million. At the end of July the company announced that it had found a suitable target and that it would buy Ascend Telecom Infrastructure, a provider of telecom infrastructure in India (investor presentation). Concurrent with the merger the company intends to exchange its outstanding warrants. Initially the company wanted to exchange all warrants for $0.50/share in cash, but that offer was revised today to the following:

Under the revised Warrant Amendment Proposal, warrantholders would have the option to either:

  • have their warrants survive and become exercisable for Ascend Holdings ordinary shares following the closing of the Business Combination in accordance with the terms of the Warrant Agreement, as amended; or
  • have their warrants exchanged at the closing for $1.00, comprised of $0.50 in cash and 0.05 of an ordinary share of Ascend Holdings.

While I already had a position in the warrants (subtle brag) before this announcement I think that the warrants are today even more attractive than before for a merger arbitrage play. The value of the warrants has increased with 100% while the price has lagged and is up just ~70% (as of this moment). With the warrants at $0.60 you can make a whopping 66.7% return when the merger is completed. That’s a pretty insane return for a merger arbitrage.

At the same time, the fact that the exchange proposal has been revised higher and to include an option for warrant holders to keep their warrants is probably a positive signal. The only reason for keeping your warrants is when you think that the surviving company will be worth a lot more than $10/share in the future. The warrants have a strike at $11.50 while they are callable when shares start trading at $24.

While the possible return is very high this is also a deal that has more risk than your average merger arbitrage. When the merger isn’t completed the warrants are going to be worthless because in that case ROIQ will be wound-up and cash will be returned to shareholders. When you own a normal stock instead of warrants during a merger arbitrage your downside is usually a couple of dozen percent to something in the direction of the pre-deal price. Because of this I think that ROIQ warrants should offer a return that is roughly three or four times higher than a normal merger arbitrage, and the position should also be sized accordingly.

But even when we adjust for the higher risk the deal appears to be very attractive. A 65% return divided by four is still more than 16%, and usually something like 4 or 5% is already a pretty big spread. The current spread is basically implying that the probability of this deal going through is just 60%, which I think is way too low. But perhaps I’m missing something?

ROIQ transaction terms

Disclosure

Author is long ROIQW

Exited Conrad and AIG

I exited my position in Conrad a week ago and I sold my position in AIG today. I bought both stocks in 2012, and they were both big winners (although I could have done a lot better if I sold Conrad earlier). Including dividends Conrad returned 114.7% while I made 92.6% on AIG. At this point in time, they were both low conviction ideas, and I needed to make some room. My portfolio is currently 102.7% long and 5.0% short for a net long exposure of 97.8%, so I’m still almost fully invested. Luckily a couple special situations will also be concluded this month.

Northern Offshore reported that the merger with Shandong Offshore was completed earlier this week and that the cash payment will be made on August 12. MCGC has scheduled their shareholder meeting for August 14, and if enough shareholders vote in favor for the merger it should and could be completed shortly thereafter. There is a risk that the company will not be able to gather enough votes because a lot of shareholders are retail investors who might not take the trouble to cast a vote. I don’t think people will vote against the merger because they are unhappy that the deal with HC2 didn’t go through since that deal is now totally dead after HC2’s stock price dropped ~40%.

Disclosure

Author is long NOF.OL, MCGC, no position in AIG and CNRD anymore

Northern Offshore merger arbitrage

Northern Offshore (NOF, NFSHF) is a marine drilling company that managed to attract the attention of several value investors in 2014 (a good write-up can be found here). Even when oil prices were high it was a somewhat speculative investment, and when oil prices crashed at the end of 2014 the stock followed. In the past year, the stock moved from a high of NOK12.55/share to a low of NOK1.75/share. In hindsight, the selling panic in the stock proved to be an excellent buying point since Shandong Offshore International announced that they reached a deal to acquire the company at NOK7.59/share two weeks ago. While the big money has now been made I think that playing the merger arbitrage is also attractive. The stock is currently trading at NOK7.20/share which implies a possible 5.4% absolute return.

I think that is a big spread for a deal that should be pretty low risk. There is no regulatory risk, the deal will be financed from the purchaser’s existing cash resources and 65% of NOF shareholders have already indicated that they will vote in favor for the acquisition. In addition to this there is a US$12.5 million break-up fee payable by the purchaser if they fail to complete the acquisition. That’s a large fee since the total deal value is just US$160 million. I’m guessing that the spread is relatively large because it’s a transaction in a small cap stock on a foreign exchange (for most investors), and the fact that the acquirer is a Chinese company is probably also not helping. If this is indeed a real risk I think you are getting paid enough to take it.

Northern Producer

Disclosure

Long Northern Offshore

Half-year portfolio review, 2015 edition

With June behind us it is once again time for the obligatory performance review. The first half of 2015 delivered a solid double-digit return and thanks to Greece’s troubles earlier this week I actually managed to beat the benchmark once again. At one point this year I was underperforming the benchmark by ~10%, mainly because the MSCI ACWI has a huge allocation to US stocks and as results profits more than my portfolio when the euro weakens. Foreign FX gains accounted in the first half of 2015 for approximately 33% of my return while it accounted for roughly 63% of ACWI’s return. This is after the EUR/USD moving back from ~1.05 to ~1.11.

YearReturn*Benchmark**Difference
201218.53%14.34%4.19%
201353.04%17.49%35.55%
201427.71%18.61%9.10%
2015-H113.17%11.49%1.68%
Cumulative162.19%77.65%84.55%
CAGR31.71%17.84%13.86%

* Return in euro’s after transaction costs, dividend withholding taxes and other expenses
** Benchmark is the MSCI ACWI (All Country World Index) net total return index in euro’s

The MSCI ACWI isn’t really a good benchmark for my portfolio, but I don’t think there is a better alternative since the majority of my portfolio consists of securities that aren’t part of any index, or if they are they don’t share that index with the other constituents of my portfolio. Because of that the MSCI ACWI should be viewed more as a reference point instead of a true benchmark. The reason that I use it is the fact that it is well-known, globally diversified and I aim to take roughly the same amount of risk as a diversified 100% equities portfolio

Performance attribution H1 2015

In the first half of 2015 special situations generated a large part of my profits, and I expect that this trend will continue in the second half of 2015 since I’m currently invested in a large number of special situations. MCGC is, of course, one of these and I’ll expect to write-up another idea later this week since I Invested in a Chinese merger arb once again. Currently, 28% of my portfolio is allocated to special situations as can be seen in the graph below:

Portfolio overview 2015 H1

The 28% allocation to special situations is a new all-time high, simply driven by the lucky circumstance that I’m finding a lot of interesting situations this year while I’m at the same time not finding many attractive long-term value stocks. Short positions that (partly) hedge my exposure in various special situations are however not visible in this diagram. My portfolio is currently 97.2% long and 13.5% short for a net long exposure of just 83.8%: pretty conservative. I actually target a higher net long exposure, but when you enter a long/short trade where both the long and short leg consists of non-marginable securities there is not a lot you can do.

Disclosure

Long everything in the portfolio overview