Classically, the “Background of the Merger” section of a merger proxy is where you get the fun details of how the deal came to be, from which you can perhaps extract a sense of whether or not the deal is a good one for shareholders. But it’s written by lawyers so sometimes their idea of “fun details” differs from yours and mine. Here is a critical moment a week before Heinz agreed to be bought by 3G and Berkshire Hathaway, from Heinz’s merger proxy:
On February 8, 2013, representatives of Davis Polk and Kirkland & Ellis had a conference call to continue negotiations concerning the merger agreement. During the call, Kirkland & Ellis noted that the Investors were willing to accede to Heinz’s request that Heinz be permitted to pay regular quarterly dividends prior to closing of the Merger. Kirkland & Ellis noted that, while Heinz had reserved comment on the remedies for a debt financing failure proposed by Kirkland & Ellis in the initial draft of the merger agreement, the Investors’ willingness to enter into a transaction was conditioned on Heinz’s remedies in those circumstances being limited to receipt of a reverse termination fee. Kirkland & Ellis noted, however, that the Investors would withdraw their initial proposal that Heinz would not be entitled to any remedies if the merger were not consummated due to a failure of the debt financing that resulted from a bankruptcy of those financing sources. In addition, Kirkland & Ellis stated that they expected that the Investors would be willing by their guarantees to guarantee liabilities of Parent and Merger Sub under the merger agreement (including liabilities for breach of the merger agreement) up to a cap on liability equal to the reverse termination fee if it became payable (as the Investors had previously proposed). Kirkland & Ellis also reiterated that the Investors were unwilling to agree to a “go-shop” provision but confirmed that they were willing to accept a customary “no-shop” provision with a fiduciary out, which would allow the Heinz Board, subject to certain conditions, to accept a superior offer made following the announcement of the merger agreement. Davis Polk replied with a slanderous description of Kirkland’s mother’s sexual proclivities. Davis Polk suggested that, in lieu of a “go-shop” provision, Heinz might consider a two-tiered termination fee, with a lower fee payable by Heinz if it terminated the merger agreement to enter into an alternative transaction within a limited period of time post-signing. Kirkland & Ellis responded that, while the Investors might have some flexibility on the size of the termination fee, the Investors would not accept a two-tiered fee. Finally, Kirkland & Ellis noted that the standard for efforts to obtain antitrust approvals proposed in the most recent draft of the merger agreement was too onerous in light of the circumstances, but that the Investors would agree not to acquire other food manufacturers during the period prior to closing of the merger if doing so would interfere with obtaining antitrust approvals.
H-P directors and bankers calculated how much revenue Autonomy would have to add over 10 years to justify such a price. Autonomy’s trajectory alone wouldn’t get there. The deal required assuming more revenue growth as a result of the tie-up than H-P usually assumed in acquisitions, said people familiar with the matter. But the directors believed they could make the numbers.
Those calculations were done without knowledge of the alleged fraud but who cares? Here is, roughly, H-P’s thought process:
Autonomy’s DCF value is Y1 based on expected revenue growth but no synergies
Y1 < X
Well but the DCF value is Y2 with regular-to-aggressive synergies
Y2 < X
Well but … well we could make up another number Y3
Y3 >= X
If you notice that current revenue numbers are made up, then that changes Y1, but Y1 isn’t an input into Y3 – the actual value that H-P put on Autonomy – because that number was also just made up. Read more »
Others have noted that Citi’s announcement of 11,000 layoffs today came with a larger than usual helping of corporate jargon, but this morning’s other big news release – copper producer Freeport-McMoRan’s double-barrelled acquisition of oil companies Plains Exploration and McMoRan Exploration – lacks one favorite piece of corporatese. Also it lacks layoffs. Where are the synergieshere?
The combined company is expected to be a premier U.S.-based natural resource company with an industry leading global portfolio of mineral assets, significant oil and gas resources and a growing production profile. FCX’s mineral assets include [copper and stuff]. The addition of a high quality, U.S.-focused oil and gas resource base is expected to provide exposure to energy markets with positive fundamentals, strong margins and cash flows, exploration leverage and financially attractive long-term investment opportunities.
That’s just “we got some copper, now we got some oil, so you can have both.” A benefit of liquid equity markets is that a Freeport shareholder could just go invest his own money in oil companies, so it’s a little weird that Freeport is doing it for them. Why? There’s no really satisfying answer, leading to disjunctions like slide 7 of the investor presentation talking about how this lets FCX diversify and slide 8 talking about how closely correlated the two commodities – oil and copper – are.1 Is the message here “we are diversifying away from copper, to protect your investment from copper price risk,” or is it “we are buying more of a thing that’s the closest substitute we can find to copper, other than copper, to give you more of the copper exposure you crave”? Who knows?
There are probably some things that bankers could advise companies to do that are unequivocally bad. Obviously if I were Bank X’s Executive Director and Global Head of Lighting Money on Fire, and I went around showing companies a pitch book that was all “signalling benefits of lighting money on fire,” and I got a bunch of companies to do it, and it became a thing, and academics and industry groups did studies on it, I suspect that they would consistently report that the trade was NPV negative at a 1% level of significance. But maybe not, because, industry groups. Anyway though you can probably imagine some of these things existing outside of silly stylized examples – in hindsight, CDOs of mezz ABS look pretty close to lighting money on fire – but not too many of them. Because if a thing is always bad through the cycle then you’d quickly run out of people to do it, for some value of “quickly.”
Is it possible that mergers are such a thing?
No, it is not!
There, that was easy. Nor, obviously, are they the sort of thing that is unequivocally good – I suppose there are such things?* Instead, mergers are like, I dunno, hedge funds. You can ask the specific question of “will this merger be good for this company?,” and the answer will mostly be “maybe” but said with DCFs and stuff. Or you can ask the general question of “are mergers mostly good or mostly bad?” and the answer will be entertainingly indeterminate. Thus mergers are unequivocally good for academics, QED. Anyway this is a strange paper: Read more »
Senator Chuck Schumer just appeared on CNBC to discuss the Deutsche Boerse and NYSE Euronext deal. His thoughts? He likes it, assuming the New York name comes first, otherwise he’s going to handcuff himself to Maria Bartiromo’s desk until it happens. Read more »