In July of 2022 I gave my thoughts on the ATVI/MSFT all-cash deal that was pending regulatory approvals. Aspects of the deal made it something worth evaluating:
1.) ATVI was an asset I knew enough about to make a judicious assumption about its value. It was well-covered yet somewhat unique in the sense that its chief assets were intellectual property and brands. I’d feel OK about owning the stock in the same way I’m fine with my brothers owning index funds: I’m sure I could do better, but it won’t kill me.
2.) The price of the stock post-deal announcement was within spitting distance of the market price pre-deal. In the case of ATVI, it was actually below the 52-week high and firmly in a zone of reasonable valuation at a multiple of current earnings.
3.) MSFT, a AAA credit, was the counterparty on the other side of the all-cash deal. There was no capital markets conditioning the deal.
4.) MSFT for ATVI was largely a vertical deal with no real HHI analysis concerns, and I thought any FTC case against the deal would be spurious.
Hindsight is 20/20, but this seemed like a fair risk/reward all things considered. It wasn’t a slam dunk from my newsletter writing to deal close- the annualized total return was around 15% with a -10% drawdown thrown in there, but in my view, the downside was very limited. A decent place to park excess cash.
Merger arb has its own world and its own market participants that are specialists. As such, it’s a dangerous game to play for the 100 IQ-generalists. Many had their ass kicked by the JetBlue for Spirit Airlines deal that crumbled; not only was the deal blocked by the FTC, Spirit’s balance sheet was hollowed out and the stock went from $16 to $6. The key takeaway here, at least for me, was improper valuation of the so-called “bird in the hand”. The company itself was falling apart and wouldn’t last without the deal going through— people became too fixated with what was in the proverbial bush (the deal spread). Bad balance sheet, bad industry, bad assets.
With ATVI, the deal was also challenged by the FTC; as anticipated the government failed to block the deal. In my view, ATVI would have been fine with a deal break with its assets and balance sheet. No such risk of ruin.
Enter: X