February 23, 2008

Value Idea: Buyout of CHC Helicopter

In a market like this where it is not expected to go anywhere, it makes sense to look for high probability small returns to boost the portfolio performance. In this case it is buying the shares of target companies in announced buyouts and mergers. This post about a case I will be buying in on Monday.

On Friday First Reserve Corp. announced the buyout of CHC Helicopter Corp., a firm specializes in oil field transportation. The deal is interesting and makes for a good case to invest in CHC to earn a quick expected return of 6%.

Here are the facts of the buyout:

  • CHC transports people and equipment to oil and gas drilling locations, is the world’s largest provider of helicopter services for oil companies.
  • U.S.-based private equity firm First Reserve Corp. has made a bid for Vancouver´s CHC Helicopter Corp. (TSX:FLY.A) valued at $3.7 billion.
  • First Reserve is offering $32.68 a share, a 49 per cent premium to CHC´s closing price on the TSX Thursday of $21.88.
  • The $3.7 billion includes a total cash component of $1.5 billion about $800 million in debt and about $1.4 billion in liability associated with off-balance-sheet aircraft leases.
  • CHC´s headquarters would remain in Vancouver.
  • Sylvain Allard will keep the CEO title, a job he has held since November 2004.
  • Chairman Mark Dobbin, son of CHC founder Craig Dobbin, will not stay with the company after the deal closes.
  • The deal is set to close in June, 2008.

I think this is a good buyout to earn a quick return on the gap between the buyout price and current market price for the following reasons:

  • The deal size is just right about $2 Billion; it is not something huge that will scare the banks.
  • A majority of the buyout is equity from First Reserve so the banks are in for a smaller stake and smaller exposure.
  • This will get shareholder's approval 100% guaranteed as the needed majority of the shares are controlled by Mr. Dobbin.
  • First Reserve is not just a run of the mill Private Equity firm, it specializes in energy companies and in recent times has been focusing on the service side of things. They are building a collection of businesses that will capitalize on the lack of spending on oil fields infrastructure in the last few decades. The company makes a very strategic addition to their portfolio as demand for helicopter transportation services have exploded with oil fields getting more remote. The firm speciality makes this buyout more likely to proceed.
  • The company has great demand ahead of it and it is in the right business. It has no troubled areas to the economy.
  • The deal is very simple buyout there are no multi partners or any intended breakup of the business that can complicate its funding.
  • CHC is in relative good financial position from balance sheet perspective and has good profitability.
  • The break up fees levied on First Reserves if it walks away is double those against the company and comes to about 6% of the company value. The structure projects confidence that First Reserve will close.

Now lets look at the numbers from a probabilistic point view. There are two possible future states: the deal goes through or falls apart. I am assigning 95% chance that the deal will go through due to the reasons I explained earlier. If you agree with that probability assignment then you can expect 6% return, including a dividend payment, for your trouble. The annualized expected return is 25% which exceeds the 20% threshold that risk arbitrage operations require. The details of the payoffs are illustrated in the table below.


Miguel said...

Great Post, Keep up the good work and good luck with the investment

Miguel Barbosa

Sami said...

thanks Miguel.
I will post how it goes with this one. I plan to put the order Monday morning.

Anonymous said...

Why is there 95 days to close? It's more conservative to assume calendar Q2 ends on Jun. 30 and there are 116 days from now (march 6) to 6/30.

Sami said...

I went by the conference call estimates and previous buyout history by First Reserve. Sure it could have been more conservative to use longer closing date

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