Merger Arbitrage Spread Widens On Rohm and Haas-Dow Deal
The spread between Dow's
offer and Rohm and Haas' stock price has
widened despite reassurance that the deal will
go through. A report from Xinhua
Financial News stated that
Dow Chemical Co
said on Monday it considered altering the
structure of its bid for specialty chemicals
maker Rohm & Haas and was committed to
completing the acquisition.
"...[W]e're
committed to closing the
deal,"
Chairman and Chief Executive Officer Andrew
Liveris said on a conference call in response
to a question from an analyst.The company also
said it would take an estimated $700 million in
pretax charges, or 50 to 60 cents per share, in
the fourth quarter to implement the job cuts
and operational reductions announced earlier on
Monday.
My stock investing advice
for this deal
would be to get in as soon as possible,
especially with Rohm and Haas at $67 a
share. As always, place a stop price on your
stocks because there is the slight chance
that the deal falls through. You don't want
to be stuck with the declining stocks. Pick
your loss tolerance for the trade. For
example, if you set a $65 stop on ROH, then
the maximum you can lose from its price
today is 3%, or $2 a share.
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Current Merger Arbitrage Spread for Dow- Rohm
& Haas Deal
>Rohm & Haas Co. (ROH)-
to be bought by Dow
Chemical Company (DOW).
Premium
offered: 16.42% or $11.00
Cash offered per share: $78.00
ROH current price: $67.00
Expected closing: Jan. 2009/ Very early 2009
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The Fed Cuts Interest Rates Again, Target: 0%-.25%
The discount rate was cut by 75 basis-points or .75% to .5% from 1.25%. The Dow Jones Industrial Average rallied up to 3% right after the announcement, and then it dropped several minutes later to up over 2% or 185 points.
This is the lowest level that has ever come out from the Federal Reserve since it was established. They are going to have to seek other means of easing this beaten up and suffering economy. After lowering rates meeting after meeting, the Fed is running out of tools and is going to have to get creative if they are going to help. The Fed's balance sheet has more than doubled from $900 billion to almost $2.2 trillion.
Cutting interest rates is not at all close to a "cure-all". Japan's interest rates stayed at 0% for years, and they have undergone one of the longest recessions any country has seen. They have been in a recession since the 1980s. One thing that we have done right that Japan didn't is mark-to-market accounting. They refused to write-down their inflated real estate portfolios with the hope that the market would turn around soon, but then again that has absolutely nothing to do with the Fed.
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At some point, we have to realize the Fed is not going to save us. We have to let these things work themselves out. With automakers and banks still on the brink of failure, the only thing we can do is wait to see what happens, and then move on.
Living in Florida, it reminds me of something we do when disaster hits. During a hurricane, all you can do is hunker down and make it through. You have to wait for the storm to pass to assess the damage. Only then can you start to get everything back to normal. Trying to repair things in the middle of a storm is almost always a failed effort.
Value Investing Basics Part II
Historical research shows that stocks with low P/Es have performed better over time than high P/E stocks. The P/E ratio is the multiple of earnings per share (EPS) that the stock price currently is (Ex: Stock A has EPS of $3, and P/E of 10x; the stock price= $30). However, to find really solid stocks there are lot more aspects to look at than simple P/Es, because the P/E ratio doesn't paint the whole picture of the company.
After you have read Part I - Value Investing Basics for Beginners, you should know what type of companies to look for. You now need to follow these guidelines for making sound value investments. You can input these requirements into stock screeners to find undervalued stocks. Most of these ratios are readily available in Yahoo! Finance information for companies.
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Value
Investing Guidelines
Screen:
1. PEG
Ratio less than 1.
2. Net profit margin more than 15%.
3. Return on Equity more than 15%.
4. Return on Assets more than 10%.
5. Earnings growth of 10% or more over the past
5 years.
6. Growing Cash Flow from Operating Activities.
7. Low Debt relative to Gross Profit- Total
Debt should not exceed 3 or 4 times Gross
Profit.
Although these are not hard, fast rules, these
are guidelines that will sift out great
companies from the not-so-great companies. If
the stock has a low PE with all of these
requirements, it is an attractive stock.
These requirements make the PEG Ratio
important. The PEG ratio equals the PE ratio
divided by the expected EPS growth rate for the
next 5 years (Ex: a stock has PE of 9 and a
five year EPS growth rate of 15%; so 9/15= .6
PEG ratio). Many value investors buy stocks
from just the PEG ratio. Although it adds an
important element of profitable growth to the
PE number, you still have to look at factors
other than the PEG.
Now you understand the fundamentals of how to
Value Invest. This list and Part I allow you to
find sound value investments. There are more
details that some investors use, which I will
post later about. Happy Investing!
Suggested
Reading:
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3 Rocking Stocks to Buy Before Christmas 2008
My mission was to find five consumer-based stocks that are largely undervalued and will do well in the next 9-18 months. Although many analysts have knocked down companies' stocks because they expect weak 2008 holiday sales, the magnitude of these drops in stock prices has been greatly overstated.
When the market rebounds, so will these stocks. Also, when the individual companies begin to beat earnings estimates again, the stocks will go even higher. This process will take a long time, but if you have patience, investing in these stocks will make your portfolio shine.
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3 Rocking Stocks to Buy Before Christmas 2008:
- Bare Escentuals (BARE)- This natural cosmetic and skin care company has all of the right stuff. They are well positioned in a number of cosmetic stores like Sephora; they also have their own retail and catalog sales. Being natural gives them the eco-friendly and healthy image that so many consumers are looking for. Since they only have a market cap (market value) of $412 million, they have a lot of room to grow compared to Estee-Lauder (EL) with a $5.6 billion market cap. At $4.50 a share, BARE's stock has an extremely low P/E of 4.2x earnings. Once the economy picks up again, this company is poised to take some serious market share.
- Harry Winston Diamonds (HWD)- The famous, ultra-luxurious jeweler has suffered recently because even the wealthy are feeling the pinch. The name of this company carries a certain prestige that I believe will last forever. At $4.02 per share, this stock has a P/E of 1.3x earnings! That's almost as cheap as stocks can get. To make the stock a little more attractive, HWD has a nice dividend as well.
- Macy's (M)- Macy's has struggled with this market like most department stores, but this 150-year-old store is still in excellent financial shape. They are not riding on tons of debt like many of its peers do. Macy's stock price has a P/E of 4.2x earnings at $7.03 per share. They will come out of this economic crisis just like it did in the past.
It's hard to lose when you buy stocks that are priced at rock-bottom prices and have great potential in the future. Remember that you must be willing to wait out the storm with these stocks, and you can thank yourself later.
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Current Merger Arbitrage Spreads, M&A Deals
The area you can make money in is the difference between the current stock price and the buyer's purchase price (if cash deal). It must be paid in cash, because in this market if a buyer offers a stock for stock deal, then the buyer's stock price is likely to fluctuate. That can eliminate the premium if the buyer's stock price drops significantly.
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Here's a
list of likely Mergers /
Acquisitions:
>Constellation
Energy Group (CEG
)-
in September this energy giant accepted an
offer from Warren Buffett's MidAmerican
Energy Holdings for $4.73 billion.
Constellation filed for a shareholder proxy to
vote in favor of the acquisition.
Premium
offered: 13.2% or $3.10
Cash offered per share: $26.50
CEG current price: $23.40
Expected closing: within 7 months
>Rohm
& Haas Co. (ROH)-
to be bought by Dow
Chemical Company (DOW).
Premium
offered: 9% or $6.45
Cash offered per share: $78.00
ROH current price: $71.55
Expected closing: Jan. 2009/ Very early 2009
>Foundry Networks Inc. (FDRY)-
to be acquired by Brocade
Communications Systems Inc. (BRCD)
for $2.6
billion.
Premium offered: 10.59% or $1.58
Cash offered per share: $16.50 cash
FDRY current price: $14.92
Expected closing: Fourth quarter 2008
>Puget Energy Inc. (PSD)-
this deal is pending Macquarie
Bank's ability to borrow $7.4
billion, which is not easy in these rough
economic times.
Premium
offered: 15.25% or $3.97
Cash offered per share: $30.00
PSD current price: $26.03
Expected Closing: End of Dec. 2008
I will be
following more mergers and acquisitions, so
stay tuned for more money making
opportunities. There are chances that
these acquisition deals might not go through,
so these gains are not guaranteed, but
likely.
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Make Money on Mergers and Acquisitions
What happens in a typical acquisition is the buyer (acquirer/bidder) makes an offer to buy a company (seller/target) for more than the seller's stock price currently is (premium). This provides an incentive for the target company to accept the offer. As long as the offer is in cash and the deal is successfully executed, there are guaranteed gains for the target company's shareholders.
For example, the popular InBev acquisition of Anheuser-Busch presented a huge profit opportunity. InBev offered $70 in cash for each share of (BUD) stock. If you bought shares of Anheuser-Busch (BUD) on Oct. 29, 2008 (long after the acquisition announcement) at $59.83, you would be almost guaranteed a profit of 17%, or $10.17 a share. Now, with the stock at $68.50 as of Nov. 14, the merger presents only a 2.2% return. Annualized, that return is 13%, so it's still not a bad deal.
Opportunities like this exist more right now than in a more normal stock market because investors are fearful of stocks in general and are just protecting their money. This takes the focus away from situations in mergers as there is a "flight to safety". It is usually hard to find merger opportunities because the market is efficient enough that investors usually buy the stocks up to the offer price as soon as the announcement comes out. Now times are different, and you can take advantage of that.
Like Warren Buffett says, "Be fearful when others are greedy, and be greedy when others are fearful." Now is the time to be greedy when people are fearful.
Making money on acquisitions depends on a few main contingencies:
- The deal must be very likely to go through- research news and shareholder reactions to offers.
- A premium must be presented to the shareholders- the offer should be significantly higher than the current stock price.
- Cash offers are best and easy to value- stock deals can change value because of fluctuations in buyer's stock prices.
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