American DG Energy Inc. (NYSEMKT:ADGE) is being acquired by Tecogen Inc. (NASDAQ:TGEN) in an all stock transaction. Tecogen is offering 0.092 shares for every ADGE share. What is very surprising is that when the deal was announced the stock price of ADGE barely reacted. ADGE closed just 6.8% higher on negligible volume while Tecogen was offering a premium of approximately 35%. Since then the stock prices of both companies have barely moved and as a result the spread is still an extremely juicy 19%. Note that, because both stocks are fairly illiquid and can have a wide bid/ask spread putting an exact number on the spread is hard, and entering a position at this price might be even harder. I decided to pay up for my ADGE shares.
With a spread this big your reaction is probably “there must be something serious wrong here”, at least that was what I thought. But after reading the preliminary proxy statement there isn’t a whole lot that I can find that would worry me. What is unusual is that both companies are already very closely related. They are already located at the same address, the have the same two co-CEOs, the same big shareholders and they are sharing board members. From the S-4:
Senior Leadership Overlap
- John Hatsopoulos is the co-Chief Executive Officer of both Tecogen and ADGE.
- Benjamin Locke is the co-Chief Executive Officer of both Tecogen and ADGE.
- Robert Panora is the President and Chief Operation Officer of Tecogen and General Manager of ADGE.
- John Hatsopoulos is a member of the Board of Directors for both Tecogen and ADGE
- Charles Maxwell is a member of the Board of Directors for Tecogen and Chairman of the Board of Directors of ADGE.
- John Hatsopoulos together with his family beneficially owns more than 22% of Tecogen and 20% of ADGE.
- George Hatsopoulos together with his family beneficially owns more than 21% of Tecogen and 19% of ADGE.
But I don’t see that as a negative in this case, this just means that it makes a ton of sense to merge the two companies. They are active in adjacent businesses and since ADGE has a market cap of just ~$17 million and Tecogen has a market cap of ~$85 million maintaining two separate stock listings is just too expensive. The two companies expect that they will be able to eliminate approximately $1 million in costs annually by merging, which is significant. What I think is perhaps the biggest worry of people interested in playing the merger arb is this:
No Deal Protection Devices; Termination of the Merger Agreement
The Merger Agreement does not contain any so-called “deal protection devices” such as a no-shop provision or a termination fee. Prior to obtaining ADGE stockholder approval, ADGE may withdraw or modify its recommendation to ADGE stockholders with respect to the Merger, terminate the Merger Agreement and enter into an agreement with respect to a competing acquisition proposal with a third party. In addition, Tecogen and ADGE may mutually agree to terminate the Merger Agreement at any time prior to the Merger effective date, regardless of whether Tecogen or ADGE stockholder approval has been obtained. See “The Merger Agreement – Termination of the Merger Agreement by Either Tecogen or ADGE.”
This obviously makes it easy for both companies to change their mind, and cancel the deal, but I don’t think that is a significant risk-factor in this case. There is really just one party here, and that partly must be interested in pursuing the current deal. Why? Because just getting a merger agreement signed and getting a preliminary proxy statement on the SEC site is an expensive process. You’re not going to spend a solid six figure dollar amount, or perhaps even a seven figure amount, if you aren’t serious. Especially if you are also a shareholder in both companies.
So I think that this deal will probably be completed, and I also think it will be completed soon. It doesn’t require any regulatory approvals, and both companies expect to complete the deal by approximately March 21, 2017. Getting shareholder approval should also not be problematic considering the inside ownership in both companies. Insiders own 24.8% of Tecogen and 18.0% of ADGE (and family members related to the insiders own a bit more). They will require some support from outside shareholders, but it is a deal that makes sense and as an ADGE shareholder you get a nice premium, so I don’t see why it shouldn’t happen. The Tecogen Q3 conference call contains a couple of interesting tidbits (not all on the slide) that further demonstrates how closely related the two companies are, and why a merger makes sense.
To me it seems that ADGE is just a stock that is being ignored by the market. Since the deal was announced on the 2nd of November total trading volume in the stock was a bit less than 2 million shares for a total value of roughly $600,000. That’s absolutely nothing for a company with more than 50 million outstanding shares when a big corporate action is announced. If it would be a controversial deal you would at least expect to see some trading action, or a high short interest. In this case, just nothing is happening. Another hint that owners of ADGE and Tecogen might not be keeping track of what their stock is doing comes from the S-4:
After due consideration, the Board of Directors of each of Tecogen and ADGE determined not to require approval of a “majority of the minority” of stockholders of each company as a condition to closing of the Merger due to a number of factors, including but not limited to: (a) a historical pattern of a significant percentage of stockholders of each of Tecogen and ADGE not voting in prior annual meetings, making it difficult to achieve a majority of the minority of all eligible shares for each such company, particularly in light of the significant equity ownership of officers and directors and their families of each company;
Perhaps that I’m missing something here, but I don’t see what… I bought a decent position, and in case I’m somehow missing something I guess the downside is limited. ADGE is barely up compared to the price before the transaction was announced so it also shouldn’t drop a lot in case the deal doesn’t go through. It’s a bit of a weird situation, but I think it’s extremely attractive at current prices. Investors love calling random stuff an asymmetric risk/reward opportunity, but this is really one of those deals. And not in the usual merger arbitrage way with a little upside and a lot of downside! 🙂
Author is long ADGE, no position in TGEN