Just over 12 months ago on 19 October 2012, grain logistics and marketing firm GrainCorp (ASX: GNC) received a buy-out offer from Canadian-based Archer Daniels Midland (ADM) at $11.75 per share.
Takeover offers can create opportunities for investors to profit from what is known at 'risk-arbitrage' or 'takeover arbitrage' — an investment strategy that has been employed by many high profile investors including Warren Buffett and Geoff Wilson.
Geoff Wilson's Wilson Asset Management had invested approximately 5% of funds under management across its three listed investment companies including WAM Capital (ASX: WAM) into GrainCorp. GrainCorp was appealing from an arbitrage point of view with the stock able to be purchased (at times) for less than the indicative offer price, as well as enjoying the boost from an offer price which was raised above the initial $11.75 to $13.20.
In a similar manner, the recent takeover battles for Trust Company (ASX: TRU) and Bega Cheese (ASX: BGA) have both offered exceptional returns so far for arbiters.
Takeover arbitrage is not without risks however, with the possibility that the transaction won't complete always present (hence the risk) – in GrainCorp's case the primary concern was that the Treasurer would not grant Foreign Investment Review Board approval. On Friday, to many investors' surprise, this is exactly what happened. In response GrainCorp's share price plunged 22.14% to $8.72, a price the stock has not traded at until well before the initial takeover approach in early 2012.
While investors who purchased GrainCorp after ADM's approach will be licking their wounds, now could be an opportunity for savvy investors to snap up stock in a business that has obvious appeal to ADM. GrainCorp is targeting $110 million in incremental gains in earnings before interest, tax, depreciation and amortisation (EBITDA) by 2016. For the financial year just ended, the firm reported diluted earnings per share from continuing operations of 61.6 cents per share. With the stock closing trade on Friday at $8.72 this implies a price-to-earnings ratio of 14.15 times.
Foolish takeaway
A buyout offer can provide investors with a benchmark of value as determined by a knowledgeable buyer. Having said that, knowledgeable buyers have been known to overpay. The fall in share price has certainly made GrainCorp look more appealing and its strategy to boost EBITDA should offer significant support to the company's earnings over the next few years.
