June 4, 2019

M&A Arbitrage: Confessions of a Former Arb

One of the things that public company sellers learn quickly is how announcing a deal often transforms their shareholder base.  The board & management may picture a base comprised of long-term investors, but the truth is that many of these investors lock in their gains & sell out upon the announcement of a deal.

The folks on the buy-side of those trades are often “Arbs.” These are short term speculators focused on maximizing the value they can squeeze out of the stock – not based on the company’s performance, but on the risks and potential upside of the deal.  Arbs operate in the shadows, and that’s part of what makes this article by former Arb Ira Gersky so interesting. Here’s an excerpt with some pretty frank talk to CEOs about the expectations of their new owners:

While you may view the Arbs as a loathsome bunch of short-term hedge funds with no regard for the company beyond the deal, you need them on your side. Arbs are well resourced, highly skilled and control billions in capital. Not only can Arbs help provide critical market information, they can influence the ultimate outcome of your transaction.

Your stock, which the Arbs now own, trades at premium to its standalone value; absent a deal, it would revert to its unaffected value. Since Arbs are picking up nickels in front of the proverbial steamroller, the ever-present risk of a steep drawdown makes Arbs highly reactionary to new data points. Their bet centers on how much money could be made or lost from now until the deal close or break. Arbs seek answers to the basic questions: “Will the deal close? When will the deal close? What are the variables? How much am I risking?”

Arbs focus like laser beams on significant conditions & any developments that might affect the certainty of the deal closing. That means CEOs should expect a lot of probing phone calls about the status of the deal. The article goes on to discuss the key things that CEOs should keep in mind when dealing with inquiries from Arbs, including how to avoid the “Arb scrum” – which involves being surrounded by a howling pack of arbs at any public appearance – by using your IR folks as bouncers.

John Jenkins