On Monday, Washington Mutual, the giant Seattle-based bank, announced it had agreed to buy credit-card giant Providian. The deal, a $6.45 billion mix of cash and stock, valued Providian at $18.71 per share, just a 4.2 percent premium over last Friday's closing price of $17.96. Today, in fact, Providian is trading lower than it was before the deal was announced. Depending on how Washington Mutual's stock performs, the bank could well end up acquiring Providian for even less, meaning it will achieve a takeover by executing a"takeunder."
The WaMu-Providian deal isn't the only recent example of a company paying less than expected for a target. On Monday May 2, extreme-luxury-goods emporium Neiman Marcus agreed to be acquired by private equity firms Texas Pacific Group and Warburg Pincus for $5.1 billion, or $100 per share in cash. The stock had closed the previous Friday at $98.32, meaning that the premium for the premium company was just 1.7 percent. After the market closed on Tuesday, May 10, beloved overall-maker OshKosh B'Gosh agreed to be sold to beloved children's wear company Carter's for $312 million in cash, or $26 per share. That day OshKosh's stock had closed substantially higher—at $29.40—meaning that Carter's paid less than the market value for it.
Such no-premium purchases would seem like a sign of weak companies in weak markets. After all, most big acquisitions come at a decent premium over the stock market value—it's the price the buyer pays for corporate control. If the market were strong, why would a board of directors be willing to accept a buyout offer that values the company at or below its stock market value?
But in fact, the acceptance of these takeunder deals could be a sign of something that has been sorely missing in many of the biggest mergers and acquisitions: intelligent behavior by both buyers and sellers.
What's happening is that the buyers and sellers are outsmarting the fast money.
When target companies put themselves up for sale, or when a sale is rumored, investors—hedge funds, mutual funds, proprietary trading desks at big investment banks, and individuals—pile in. They hope for an offer at a huge premium—which tends to ward off potential competitors—or, better yet, for a bidding war to erupt in which ego-fueled CEOs drive the price higher still. Because there are so many such investors looking for such angles every day, they tend to speculate before the bids are actually made public.
Consider how the fast money tried to play Neiman Marcus. On March 16, Neiman Marcus announced it had hired Goldman Sachs to explore "various strategic alternatives to enhance shareholder value, including the possible sale of the Company." The previous day, the stock had closed at $74.75. By late April, in anticipation of a buyout, investors had pushed the price up to $100. But the private-equity buyers refused to validate the speculation. They paid only $100 per share for the company, depriving the late-moving fast money of a big profit.
The same held true for OshKosh. In February, as investors began to speculate that the company would put itself up for sale, shares rose nearly 50 percent in two weeks, from about $19 on February 1 to $27.38 on February 17. That day, OshKosh announced it had hired Goldman Sachs "to assist the Company in evaluating strategic alternatives, including a possible sale of the Company." (Sense a theme developing here?) OshKosh sold for $26, again voiding a big profit for latecomers. Now look at the chart of Providian, where a rumor of a sale was gaining legs through April and May. The stock ran from $15.43 on April 22 to $18 on June 2—up 16 percent.
In each of these cases, the acquirers—a private equity firm in one instance, big companies in the other two—essentially refused to reward speculators for counting on fat dumb bids.
Of course, you can't blame investors for piling into companies that have put themselves up for sale. It's a strategy that has worked in the past. And there will certainly continue to be plenty of deals that are consummated at significant premiums. Sun Microsystems last week agreed to buy StorageTek at an 18.5 percent premium, for example. But while investors always prosper in the short-term as a result of big-premium deals, many of them end poorly for investors in the long term. (The ill-fated acquisition of Time Warner by AOL is perhaps the most prominent recent example.) Big, out-of-nowhere, unnecessarily large-premium bids are frequently a sign that CEOs are thinking with their overstuffed wallets rather than with their brains.