Bayer vs. Monsanto: Who is the “patsy” at the Poker table ?
One of the highest profile merger cases at the moment is the Bayer / Monsanto case.
A quick recap:
In may 2016, Bayer made a proposal to buy Monsanto. The first offer was 122 USD per share which was rejected. Bayer increased the offer 2 times, first to 125 USD and currently to 127,5 USD.
The big question is: Why is Monsanto only trading at 107 USD (at the time of writing)? Compared for instance to the initial ChemChina/Syngenta deal spread, the Bayer case looks a lot more solid:
+ Bayer has the money to pay and the CEO is dedicated to follow through at almost “any cost”
+ regulatory approval likely although some parts might need to be divested
+ no “China malus” like ChemChina/ Syngenta
The Bloomberg “arbitrage” Function only gives the deal only a 39% chance of closing. They calculate this based on the 20 day average price (pre offer day).
Working backwards from the probability, the “undisturbed” Monsanto price should be around 93,90.
Looking at Bayer and using the same 20 day period, the stock is down ~ 9,50 EUR or 9,2% based on an “undisturbed” price of 103,50 EUR.
Potential issues:
Monsanto is a very liquid large cap and most likely every special situation / merger arbitrage fund is looking at this.
One explanation could be that 2016 has been the year of cancelled mergers, so many M&A arbitrage specialists could be in trouble and maybe fight with redemption.
On the other hand, there is so much money out there that this doesn’t justify a spread so rich in such a liquid stock.
In my opinion 2 main issues could be the reason for the discount:
- Bayer CEO:
The Bayer CEO Werner Baumann is pretty new as CEO. He was appointed in May 2016 and followed on the extremely succesful Dutch CEO Martin Dekkers. Baumann was not a board member before but the deal maker in the second row. The Monsanto deal is very controversial, clearly outside the company as well as inside. Although he is a company veteran, there could be big internal power struggles going on internally, especially from other board members who are maybe disappointed that they didn’t become CEO and maybe have different ideas about the future of the company. Interestingly even the old CEO was against the deal according to “informed sources”. The small increases in the offers made could indicate that he has only a backing up to a certain point, not to an indefinite price. - Monsanto CEO:
Hugh Grant, the Monsanto CEO actually tried to be the industry consolidator himself when he tried to acquire Syngenta a year ago. Syngenta refused the deal and he had to cut costs and issue a profit warning. I am not an expert but I am pretty sure that the CEO of the “Most evil company on the planet” would prefer to be the leader of such a giant company instead of walking away with 110 mn USD. For me, the guy is the biggest wild card: So far he has played along pretty well but made no commitment yet. It is pretty clear that he doesn’t want to be taken over. The question is: What can he do against it ? Based on what I said above i think the most likely defense is to raise the required price above Baumann’s “threshold”.
Just looking at pictures of those two guys make me wonder:
Hugh Grant:
Werner Baumann:
Is Baumann really a match for Grant when it really gets tough ? Will Grant suddenly come out with a Poison Pill ? Who knows, but if you would put those 2 guys into one room, I am not sure if Baumann stands a chance. It is different to negotiate behind the scenes as the M&A guy compared to manage all stakeholders as CEO.
So I am pretty sure that the Monsanto deal is not a “no brainer”, rather the opposite.
Valuation attempt
Let’s look at the valuation nevertheless. If we assume a naive 50/50 chance of the deal closing, we would have the following payouts:
If the deal goes through, I will gain (127,5-107)= 20,50 or +19,1% based on the current price. If the deal fails and Monsanto goes back to the assumed “undisturbed” price of 93,90, I lose (107-93,90) =-13,1 or -12,2%. This would result in an expected return of around 3,5%. Not bad, but also not that great either, considering that IO also have FX risk.
I tried to play around with call options for Bayer (if the bid fails, the price should go up), but using the share prices from teh beginning, the expected return doesn’t get much better.
Only if I assume that the undisturbed price of Bayer would be higher than long Monsanto/long Bayer call strategy looks better. But that again already looks like a call on the Bayer share price which then is further away from an “arbitrage” deal.
“Informed sources” news
Although “informed sources” keep insisting that a deal happens any day, Monsanto’s share price doesn’t move. In situations like this it is not uncommon that those “anonymous sources” spread misleading information.
In the Monsanto/Syngenta case for instance the following piece of “news” appeared on Bloomberg;
Syngenta Gains 8.6% as Monsanto Said to Increase Takeover Bid
- New bid would value Syngenta at about 470 francs per share
- Syngenta board said to schedule meeting to decide on response
(Adds analyst comment in fifth paragraph.)By Ed Hammond, Aaron Kirchfeld and Matthew Campbell(Bloomberg) — Syngenta AG rose the most in more than three months in Zurich trading as people familiar with the matter said U.S. rival Monsanto Co. has made an increased takeover offer, seeking to draw the Swiss agro-chemical producer to the negotiating table after its earlier approach was rejected.
Not much later later the following news appeared:
MORE: Monsanto No Longer Pursuing Bid for Syngenta
By Aoyon Ashraf(Bloomberg) — Monsanto says it is no longer pursuing current bid for Syngenta as proposal didn’t meet expectations.
- Says without basis for constructive engagement from Syngenta, Monsanto will continue to focus on its growth opportunities built on its existing core business
The stock from Syngenta dropped more than -15% after that as the “merger arb” guys were fleeing the stock.
So one has to be extra carefull with this kind of anonymous news. I suspect that some players use this kind of tactic to get out of the position when they see the deal falling apart.
Summary
Although the potential upside looks attractive, I do think that I am at an informational disadvantage here. I don’t fully understand why the price is so low . There is the famous saying also used by W. Buffett:
“As they say in poker, “If you’ve been in the game 30 minutes and you don’t know who the patsy is, you’re the patsy.”
So after looking into the Monsanto/Bayer poker game, I don’t know exactly who is the patsy (or why someone would sell shares at 107 USD), so I have to assume that it is me if I would buy Monsanto shares. So I better watch this from the sidelines. If Monsanto drops really hard into the 80ies (if the deal falls apart), one could think about a “busted M&A” special situation .
UPDATE: After finishing the post but before publishing there was news that Monsanto will hold a board meeting today (Sep. 13th) to decide about the deal. The stock price lost -1%, which for me indicates that they will not accept the offer and will require a (much) higher price.
Update: It seems that Bayer has again increased the offer by 1,50 USD/share. Maybe Baumann wants to force Grant into a “Bore out” syndrom so that he has to retire ? Very strange tactic.
value and opportunity 
I think Baumann did a very good job and if I read one of the many interviews he gave recently, he comes across very humble and straight forward.
Grant walks away with a huge cheque. Everybody happy (mybe the environmentalists not so much).
http://www.rp-online.de/wirtschaft/unternehmen/margrethe-vestager-wir-wollen-fusionen-nicht-verhindern-aid-1.7382774
Very capable person, irrespective of her decision on Bayer/Monsanto.
Hello,
I frequently read you but this is my first comment.
Do you think remaining discount is due to antitrust concerns only? I’m surprised Mon price didn’t react even after the Dow/Dupont approval.
Juan
I am not following this too actively. Maybe people think that Trump will somehow do something becasue he doesn’t like Germans ? I do not know.
“Bayer is not required to take (a) any Divestiture Action described in the foregoing clauses (i) or (ii) that, taken together with all other Divestiture Actions described in such clauses, would reasonably be likely to result in a one-year loss of net sales to Bayer, the Company and their subsidiaries in excess of $1.6 billion in the aggregate …” https://www.sec.gov/Archives/edgar/data/1110783/000119312516714915/0001193125-16-714915-index.htm
The divestiture terms demanded by antitrust agencies are likely to be higher than $1.6 billion.
If Monsanto’s value for Bayer should be far below $64 billion at the end of 2017, the termination fee of $2 billion would be preferable for Bayer.
Nearing the “undisturbed price” sub-$100… the risk/benefit equation is positively tilting.
yes, interesting. But hard to explain. Remains the question why anyone is selling at 100 USD.
Hitting the $100 mark now!
Closer to the “undisturbed price” I guess…
Hello mmi007 where do you find The Bloomberg “arbitrage” Function please?
I do it the following way:
CACS (corporate action)
Pick the merger line
Chose “23) Arbitrage” and you will get the overview.
i am sure there are 10 other ways to get there…..
Great article! I’ll be reading your blog more in the future!
why don’t you buy monsanto and an at the money put option (12/2016) for a current price of approx. 3% of the stock price? If you can sell the stock for +20% you got at least 17%. If the deal blow off then you have lost “only” your 3%. …assuming this riddle will be solved in the one or other direction within the next 3 month.
#Denny,
very simple reason why this is mabye not a good idea: They said that the deal will close by end of 2017. An “at the money” option until end of 2017 however costs ~10,4% which clearly is less attractive. If you hedge with the short option, it can happen that the deal gets cancelled after your put expires and you lose both, option premiun AND stock price.
mmi
mmi
If you want to go with optionality, I think a 1:2 Call Spread makes the most sense … something like the JAN ’18 110/120 1:2 CS … costs you roughly 1.5% with an upside of 7.5%. Breaks even at 128, but asuming that the stock won’t go above 128 you’d be safe there.
what do you think of this post-announcement? It seems like people are still very skeptical given the current price.. 107.67 compared to merger price of 128
It seems that the “market” is not impressed by the announcement.
They still trade at 107 USD in Europe…interesting.
Also in the US. It’s remarkable the skepticism that this transaction has created.
By the way I am starting half position in E.On.
good luck with E.on. I think you will need it.
Deal signed …
http://www.cnbc.com/2016/09/14/bayer-and-monsanto-agree-to-merge.html
The companies have agreed on an antitrust break fee of $2 billion and the deal is expected to be closed by the end of 2017, the German group said in a statement.
Wow, 15 Months until closing. A lot can happen in 15 months…..
They should ask Bayer shareholders (or German population), if they like this deal, and not Monsanto shareholders…
Ich weiß ja nicht…
I think given the disparity of 2 main characters we can also think that is good to see an “agressive guy” with a “passive” guy instead of two “aggresive” guys with big egos trying to impose their price.
You can see also in http://seekingalpha.com/author/blue-pacific-partners/articles#regular_articles two articles well written by Blue Pacific Partners (founded by previous Greenlight analyst and as far as I have listen to him very smart guy) about Monsanto. If the board rejects an offer at x30 FCF according to his analysis it would be very difficult to justify (although stranger things happen in the market).
I think regulatory risk will be a big hurdle.
Someone who worked at Greenlight is clearly much smarter than I am 😉
Unlike Syngenta, I have not personally and will not get involved in this one. It may well happen, but the 20% return is not encapsulating all the risks in my view.
Nonetheless, I couldn’t but pick-up on “considering that I also have FX risk.” I am still pondering about FX and hedging here in my portfolio and wonder when you perceive FX as risk v.s. hedging?
Best,
Tony
p.s. by hedging I mean diversification
I perceive FX as a risk if the expected return as such is very low. For a long term holding with significant upside, I don’t consider FX a big risk (for major currencies).
News out now!
It hasn’t been a great week for the blog thus far 🙂
Nonetheless, great that we are looking at more special sits opportunities.
Actually I consider it a good week for the blog 😉
I have learned a lot and that’s the ultimate goal ….
Even though we don’t know the outcome of the deal, it seems to be clear that the current market price of Monsanto is either too high (if the deal fails) or too low (if it succeeds). Is there a strategy which can exploit this mispricing?
The current price seems to reflect a 40% chance of the deal happening. This is only a mispricing if the “true” probabilities are different.
The options that I looked at didn’t allow for “arbitrage”.
Totally agree. I like your idea of confronting the 2 characters here…like idiom says one picture is worth a thousand words 🙂
There would be a fourth option which is directly shorting Monsanto 😉
Let’s forget about shorting it! 🙂
no problem…..