Actelion (CH0010532478) – Merger arbitrage with a potential Spin-off “Gold Nugget” ?
Yesterday, Johnson and Johnson announced that they intend to acquire Actelion, the Swiss Biotech company for 280 USD per share.
The stock price jumped to around 272 CHF/USD right after the announcement indicating a relatively high probability of closing. J&J has enough money on their bank account and according to the press, most Actelion shareholders should be happy.
Closing date is targeted as June 30th. So if everything goes according to plan, this would mean ~2,9% yield for 5 months which is not bad but not that great either (as there are always risks) , so why bother ?
However there is an interesting specialty in this case which I didn’t see when I first looked into it. The official announcement contained this potential “golden nugget”:
As part of the transaction, immediately prior to the completion of the acquisition, Actelion will spin out its drug discovery operations and early-stage clinical development assets into a newly created Swiss biopharmaceutical company (“R&D NewCo”). The shares of R&D NewCo, which will be listed on the SIX Swiss Exchange (SIX), will be distributed to Actelion’s shareholders as a stock dividend upon closing of the tender. Johnson & Johnson will initially hold 16% of the shares of R&D NewCo and have rights to an additional 16% of R&D NewCo equity through a convertible note. The arrangements will result in R&D NewCo launching with cash of CHF 1 billion to be made available at the closing of the transactions. Johnson & Johnson will also receive an option on ACT-132577, a product within R&D NewCo being developed for resistant hypertension currently in phase 2 clinical development. Together, these arrangements with R&D NewCo will provide Johnson & Johnson with additional sources of innovation and value. R&D NewCo will be led by Actelion’s current scientific team with Jean-Paul Clozel, MD, Chief Executive Officer and founding member of Actelion, as Chief Executive Officer. Jean Pierre Garnier, Chairman of the Board of Actelion, will be Chairman of the Board of R&D NewCo.
So if I buy Actelion now at ~272, I get 280 end of June plus a share in a spin-off company which hopefully will be worth more than zero.
How much will that spin-off be worth ?
I have no idea as I have little knowledge in valuing R&D companies without any sales int the near future. A simple approach would be to use the cash of 1 bn and to adjust for the 32% of J&J. This translates into (680/108) ~6 CHF/USD “extra” value per share.
What I found interesting is that the Actelion CEO moves to the spin-off company including the complete scientific department. In an article in the FT it was mentioned that this was actually a condition of the CEO to cede control of the company. He seems to feel quite strongly about his development pipeline and was afraid that those projects would be terminated after the take over. He was approached by J&J already a year ago but held out until his conditions were satisified. So this guy seems to be quite a character….
Sell side analysts
Interestingly most sell-side analysts simply used the 280 USD as a new price target for Actelion. However a few banks had different price target, for instance UBS. This is what UBS said:
Kursziel Actelion: UBS erhöht auf 285 (200) CHF – Neutral
Zürich (awp) — Die UBS erhöht das Kursziel für Actelion nach dem Übernahmeangebot durch Johnson&Johnson auf 285 von 200 CHF, bleibt aber bei der Einstufung Neutral. Im neuen Kursziel ist einerseits das Bar-Angebot über 280 CHF je Aktie enthalten, andererseits integriert Michael Leuchten noch die 1 Mrd Barmittel, mit denen das abgespaltene R&D-Unternehmen ausgestattet wird. Er rechnet mit einem Abschluss der Transaktion im zweiten Quartal 2017.
So they assigned a value of 5 USD/CHF per share to the spin-off. Deutsche Bank has a price target of 286 and Bank am Bellevue for some reason increased to 300 USD.
Downside: Picking up pennies in front of a steam roller ?
I am pretty sure that some people think this is “picking up pennies in front of a steam roller”. This is true if you do these kind of transactions very rarely. However if you do those transactions on a regular basis, then the “law of large numbers” applies. In my opinion this is clearly not a 100% sure thing but a transaction with a positive expected value. If you do many of them, this will work out over the long term.
Clearly there is a chance that for some reason the deal might fall through. The undisturbed share price was maybe at 160 or 180. On the other hand there was the rumour that Sanofic was higly interested as well which shoul dprotect the stock price in the case that the J&J bid would fall through.
Although this is not a spectacular case, I do like this one as it is quite unique. There are clearly some execution risks (the official offer will only come out early February), but to me it looks like an interesting case.
If everything goes well, I get ~3% for 5 months plus a share in an R&D development company which could add another 2-3%. There are clearly some risks involved, on the other hand there is also upside because of the spin-off and it seems to be that not everyone has understood the structure.
So for the portfolio, I will initiate a 3% position at around 271,50 CHF per share. I will not hedge the currency as I don’t have a lot of USD exposure anyway.