Celesio Merger Arbitrage – follow up (and exit)

On Thursday, acquirer McKesson and Elliott agreed on a slightly increased offer 23.50 EUR (vs. 23 EUR) per share which Elliottt promptly accepted.

Interestingly,the stock trades now higher than the offer:

Apparently, during Wednesday some people already anticipated the increased offer. Technically, the acceptance period has not been extended and closed on Friday, January 9th according to the official statement. Honestly, I do not understand this. If I read §21 of the German take over law correctly, any late change in the offer automatically extends the offer period by 2 more weeks. I will need to double-check this.

The offer for the 2018 bond was also increased to 123.4 according to the amended bond offering document.

So what to do now with the price of he shares trading above the 23,50 EUR offer ?

Going back to the initial post, that’s how I valued the shares back then:

Now if we want to speculate on a top up, we have to make two assumptions: How likely is a top up and how large will it be ? In order to keep it simple, I would assume a 50/50 chance for a top up and as I like “round” numbers, I assume 5 EUR per share or a final offer at 28.

This leads us to the following expected value under those assumptions:

Exp. value Celesio share = (3.4% x 17) + (48.3% *23) + (48.3%*28)= 24.25 EUR or around 10.6% higher than the current share price.

So if we leave aside the rather bad mistake in calculating the upside potential, the price is now where I saw the “fair value” before, although I was totally wrong about the size of the “top up”. The reason that I still can make some money was that I bought below the initial bid price and the stock price did overshoot the offer.

Now we do have a very different situation compared to some weeks ago:

a) It is almost 100% assured that the bid goes through, there is now a “floor” under the stock price at 23,50 EUR
b) on the other hand it is a lot less likely that the bid will be further increased.

I can think of two reasons why the stock is currently trading above 23,50 EUR:

1) People are hoping that Elliott might have one last trick up in its sleeve to increase the offer within a relatively short time
2) Speculation that McK wants to quickly achieve a squeeze out and will buy more shares and/or have to pay some compensation for implementing the profit and loss transfer agreement (similar to MAN).

Overall, the “new” situation for me is harder to grasp and the time frame is more difficult to estimate. One should also expect, that Celesio will show most likely a lot of extra charges etc. in the next few quarters in order to both, build some buffer for Mckesson in the future and to discourage shareholders bidding up the remaining shares.

So for the portfolio, I will exit the position at current prices with a modest gain of around 6.5% for the shares and a little less for the bonds. Not spectacular but also not bad for a 4 week and relatively low risk investment.

One final remark on such M&A Arbitrage situations:

I have written above that this was a “Low risk” bet. In reality, I do not know if it was high risk and I was very very lucky or if it was indeed low risk. In statistics, one would call this a “beta error”, assuming that one was right but in reality the probabilities were very different. For me the best way to handle this is to do only small “bets”, keep track of assumptions and outcomes. Systematic “beta errors” in investing in my opinion are very dangerous as this will inevitable lead to some disastrous outcomes in the long run (Bill Miller).


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