Spectrum Pharmaceuticals (NASDAQ:SPPI) is acquiring Talon Therapeutics (OTC:TLON) in a deal for $11.3 million cash plus contingent value rights (CVRs)worth "up to $195 million". This deal, while mildly positive for SPPI, presents an excellent case-study in a rare and often misunderstood event - a takeunder.
Buyout, Takeover, Takeunder - What the terms mean
In general a buyout occurs when one company buy all (or substantially all) of the assets and operations of another company.
In wall street parlance, a takeover occurs when a buyout happens at a premium to the current price of the company being bought. In other words, the acquiring company is paying an extra premium over the current market capitalization of the target company - thus it's called a takeover.
Sometimes, a target company gets bought for a price that is lower than the current market capitalization of the company. In other words, the buyout happens at a price under the market cap - thus it's called a takeunder.
What Do Retail Holders of TLON Common Stock Really get?
A quick look a sites like Yahoo! Finance suggests that TLON's total shares outstanding is 22.01 million. - Sounds great, $11.3 million divided by 22 million is around 50 cents per share.
But hang on a second, the press release from TLON says that the deal is priced at $0.056 per share - that's 5.6 cents per share plus one CVR.
A more careful look at TLON's capital structure (from its latest 10-K annual report) reveals that the true share count in a buyout situation is actually some 201.8 million shares. (one could arrive at this figure by dividing the $11.3 million cash price by the 5.6 cents per share as well).
CVRs worth up to $195 million? Maybe not:
The CVRs could be worth up to $195 million, which, even with 201.8 million shares outstanding equals $0.97 per share.
But take a look at the notes to the TLON financial statements:
In the event of a liquidation, change of control, or sale of substantially all of the Company's assets, that occurs prior to the issuance of the maximum number of shares of Series A-3 Preferred that are issuable under the agreement, the 2012 Investment Agreement provides that the Purchasers may elect to receive an amount equal to the excess of the fair market value of the unissued shares of Series A-3 Preferred over the aggregate purchase price of such shares, as if the Purchasers had purchased such shares of Series A-3 Preferred immediately prior to such liquidation, change of control, or sale of substantially all of the Company's assets. As of March 29, 2012, the total amount payable to the Purchasers upon liquidation of the company was approximately $86 million, and the total amount payable upon a change of control or sale of substantially all of the Company's assets was approximately $136 million.
In other words, the liquidation preference of the convertible preferred shares that Warburg Pincus (WWP) and Deerfield (DF) own amount to $136 million. Should the private equity firms decide to exercise their liquidation preference, the net cash available to the common due to the CVR amounts to 59 million, which, when divided by the 201.8 million shares equates to 29.2 cents per share.
Thus the total deal price is potentially 34.8 cents per share if WP and DF exercise their liquidation preference. TLON closed trading on Tuesday at $0.37. Even counting the CVRs, the current deal is priced below yesterday's closing price, thus this deal is a true takeunder if WP and DF exercise their liquidation preference rights.
At the time of this writing it is unclear exactly how the liquidation preferences will be handled vis-a-vis the CVRs and payments from SPPI. We attempted to contact TLON's Chief Financial Officer, Craig Carlson, for more details; however his company voice mail message said:
On July 17 Talon Therapeutics was acquired by Spectrum Pharmaceuticals. I am no longer employed by Talon and am not an employee of Spectrum Pharmaceuticals...
SPPI's Investor Relations department had not returned our inquiry call on this issue at the time of this writing.
At Red Acre we pointed out TLON's precarious capital structrue a year ago. While that article generated some spirited discussion, the current situation was, unfortunately, inevitable and obvious to those who took the time to properly decipher TLON's balance sheet.
For retail investors the lesson here is that buyouts do not always equal the stock being acquired for a price above the trading price. Learn to read the balance sheets (or pay attention when those who know how to do so tell you the real deal) to avoid losing out on a buyout - an event that usually (but not always) results in a premium to the current stock price.
Additional disclosure: This article was written by Rajesh Patel, Ph.D., Red Acre's Managing Director for Equities