One of the crucial components in the practice of risk arbitrage is the understanding of the deal process. Any discussion on the subject matter without talking about the deal process would be incomplete. Let us therefore briefly outline various steps involved in a deal. The term deal is used generically to refer to both mergers or exchange offers. In the ensuing discussion we will highlight both the similarities and the differences between them.
The typical chain of events leading to a merger is as follows. First, the two companies do their due diligence on each other's business and sift through the nitty-gritty. The attorneys for both the companies then draft a contract known as a definitive agreement. The two companies then make the announcement through a joint press release. In some instances, the
2I. F. Boesky, Merger Mania-Arbitrage: Wall Street's Best Kept Money Making Secret. New York: Holt, Rinehart and Winston, 1985.
announcement is made prior to the drafting of the definitive agreement. In such cases, the announcement would be construed as an agreement in principle. Subsequently, a registration statement is filed with the Securities and Exchange Commission (SEC). The SEC looks at the statement in the context of various legal statutes causing rounds of amendments based on its comments. Subsequently, the registration statement is declared "effective," and the document is mailed to the shareholders for their approval. The shareholders vote then takes place and is followed by deal closing.
An exchange offer is somewhat of a hybrid between a merger and a tender offer. It is an unsolicited bid like in the case of a tender offer. However, unlike the tender offer, the bid is made in terms of the acquirer's stock as opposed to cash. Thus, in this aspect, it is similar to mergers. The formal exchange offer is made though advertisements in the Wall Street Journal and local newspapers. Since this involves the issuance of new stock, it goes through the same registration process with the SEC as is required for mergers. In this case, however, the completion of the transaction does not require a shareholders' vote.
Also note that mergers and exchange offers both have quite a bit in common with regards to their transaction terms. This is the topic of discussion in the next section on transaction terms and unless specifically mentioned, our discussions apply to both of them.
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