How the typical merger arbitrage process begins (the non-public part)
The merger arbitrage process generally goes like this. The first step is invariably private, where a buyer (or the buyer’s bankers) approaches a company and introduces the idea of a merger. This usually happens at the Board of Directors level. These discussions are usually informal and are highly confidential. In fact, this is where insider trading usually takes place—someone knows that a company has been approached and buys the stock when this information is still private. In our Company A and Company B example from the previous parts of this series, this person is buying Company A at $15 a share.
Let’s say Company A is agreeable to a merger. The first question they’re going to ask Company B is, “What price are you thinking?” A typical response from Company B would be something like, “We are willing to pay $19 a share based on publicly released information. However, if you let us do due diligence, we might be willing to pay more.” At that point, Company A will retain investment bankers to handle the process. Company A may respond in a number of ways. First, it could agree to due diligence and begin exclusive negotiations with Company B. Second, it could begin a process of selling the company. Third, it could tell Company B that the price is too low and that they won’t enter into negotiations at those prices.
If Company A enters into exclusive negotiations, a data room opens and Company B gets to see the non-public data. If the deal takes the process route, Company A’s bankers will set up a data room and inform other potential buyers that Company A is for sale and will run an auction for the company. Finally, if Company A decides not to accept Company B’s stock price, it will begin thinking about takeover defenses. Much of that strategy will depend on the route Company B takes after the rejection.
Right now, the biggest deals on Wall Street are between Time Warner (TWC) and Comcast (CMCSA) and between DirectTV (DTV) and AT&T (T). Investors who want to invest in M&A deals via an ETF should look at the IndexIQ ETF (MNA).
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