Shrinking Buyout Premiums? Shareholders Don't Care

By Yaser Anwar, CSC of Equity Investment Ideas

There was an interesting article in the WSJ today pertaining to Private Equity deals and shrinking premiums for the companies they buy. My aim is to mention why institutional shareholders don’t care, but first a few excerpts from "Private-Equity Deals Alter the Market"

Although the premiums on Clear Channel and other stocks are an unexpected boon for many investors, some people on Wall Street gripe that holders are not getting paid enough when companies are taken private.

Consider Fairmont Hotels & Resorts, which earlier this year agreed to sell itself to Colony Capital and Kingdom Hotels International.

Some investors protested that the firm, which manages 88 properties, was worth more than the $3.47 billion sale price. Complaints grew louder a few months after the takeover when Fairmont sold seven properties for $1.5 billion.

Those people who talk about premiums not being high enough are doing so because they missed the boat on the stock (or derivatives of the company) and/or their company didn’t get to advise the company being bought out.

Have you ever heard someone from Goldman Sachs or any of other top 4 i-banks and hedge funds such as SAC Capital cry about shrining premiums? Probably not Never.

Clear Channel executives may have pushed for deals that were good for them, but not ideal for shareholders.

Even though executives have a fiduciary duty towards the shareholders, at the end of the day, behind close doors their interests are put first, if not equal to shareholders, when negotiating the deal.

Most of you are probably aware of the RJR Nabisco take over (through the book or the movie Barbarians at the Gate). In it F. Ross Johnson, CEO of RJR Nabisco, when being advised by Shearson Lehman is set to make 3 billion dollars in 5 years if they take the company private. At the end- that news leak to NYT leads to the deal not going through as planned by Mr. Johnson. For the unaware, that was based on actual events.

So you see, it is fair to assume that the majority of executives put their interests ahead of shareholders. Nothing personal, its just greed.

Stockholders unhappy with a going-private proposal can vote against it, but probably won’t be effective, says Dominick DeChiara, leveraged-buyout practice leader at law firm Nixon Peabody.

Its not about being effective, its about performance of the stock. Think about it this way- if you’re a portfolio manager & have a $100 million position in XYZ company, which receives a 29% premium (according to the article that’s the average in a buyout). Ask yourself- would you not be happy with a 29% return, to what you already have, in one day than wait a year or longer? Most would be.

Unless you’re a hedge fund with a big stake in the company, demand for XYZ’s product is really rare & recent price multiples for XYZ’s industry have been higher than what you’re getting, you would be glad to accept the offer.

Let’s take SAC Capital for example. We all know that they are the top hedge fund and receive lots of benefits from Wall St. due to the commissions they generate. According to my source, who works at a one of the top 5 I-banks, SAC has a position in at least 5% of the buyouts.

Most recently SAC has a position in Phelps Dodge, about 1.7 million shares & approximately 5K calls (check SAC’s 13F) who got an acquiring bid from Freeport Mcmoran. According to StockPickr, in their most recent filing SAC added 482K shares & unknown amounts of calls.

To SAC the 33% premium (as of Nov. 17 offer price) to PD is good enough. Would they care for more? Certainly. Are they OK with the 33% premium? Probably.

We all know that the major part of a company’s shareholders are institutions and for them a 29%, average buyout premium, is good enough for a day. If another firm wants to engage in a bidding war, please do so by all means but if not they are OK with it.

Time to move on to the next target (that’s how they think).

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