Investors in Sirius XM (SIRI) and Liberty Media (LMCA) are by now well aware of Liberty's offering to acquire all Sirius XM shares in an equity swap transaction. Speculation on the deal has run rampant with some investors chanting "hell NO!" to some who would welcome a small premium over the current share price.
Some have sold out entirely.
At the time of release, the deal offered the following:
SiriusXM's Board of Directors received a non-binding letter from Liberty Media Corporation proposing a transaction pursuant to which all outstanding shares of common stock of the Company not owned by Liberty would be converted into the right to receive 0.0760 of a new share of Liberty Series common stock. Liberty has indicated that immediately prior to such conversion, Liberty intends to distribute, on a 2:1 basis, shares of Liberty's Series C common stock to all holders of record of Liberty's Series A and B common stock.
In simple terms, Liberty Media would create series C stock, distribute that in dividend form to current Liberty A and B holders in a 2:1 ratio, and issue 0.076 C shares per share of Sirius XM held by current investors. Liberty closing at $144.33 when the deal was released valued Sirius XM at $3.68 per share.
To calculate: Liberty Price / 3 multiplied by 0.076. This was a small premium of 3% over Sirius XM's closing price on the day of $3.57.
Reaction And Current Valuation
Snap judgment by many investors was a resounding "NO!" to the offer, even at the offered premium.
Because of this, I find it puzzling that some commenters are suggesting this is as good as a done deal, especially considering the valuation of the offer now. With Liberty Media recently closing at $133.54, what valuation does that translate into with regards to Liberty's offer for Sirius XM?
$133.54 / 3 X 0.076 = $3.38 per share.
Hardly attractive considering one can currently sell shares of Sirius XM at $3.63. Sirius XM is presently valued by the street at 7% above the current offer. Consider the first offer included a 3% premium and because of that, the current offer is about 10% "worse" than when it was given.
Does it really make sense for Sirius XM investors to accept a deal that devalues their shares? At present, in order to simply bring Liberty's offer up to current share pricing (assuming absolutely no premium) the offer would have to provide a ratio of 0.08155.
Spencer Osborne suggested a similar ratio of 0.082 in his article about Evercore, Sirius XM's selected advisor, and what he feels Evercore should suggest.
I think that the sweet spot is for Evercore to recommend that the exchange ratio be 0.082 shares of Liberty Media Series C stock for each share of Sirius XM instead of the original 0.076 shares. In my opinion, the companies will settle in the neighborhood of 0.080 and the deal will come to fruition.
I find a 0.08 ratio to undervalue Sirius XM based upon where it is currently trading and where Liberty is currently trading, and I find a 0.08 ratio to be unlikely. With 0.082 matching street value, I even find that ratio to be unlikely.
What's In It For Me?
Sounds greedy, but honestly it's all I care about. What's in this deal for me? As a current investor in Sirius XM, in order to vote yes on the deal at par value to current trading prices, I need to see some sort of benefit to me now, or down the road. The problem here is that once Sirius XM gets blended with Liberty Media, I see uncertainty. The story for Sirius XM right now? Strong auto sales coupled with significant share buybacks equals fairly predictable and steady share price appreciation.
The story as part of Liberty?
I have no idea. Neither does anyone else that I've spoken to, or read comments or articles from. In order for me to vote yes on the deal, I would have to put a lot of blind faith in Liberty and all of its holdings and assume that I would receive returns as good as or better than what I expect from my investment in the pure play of Sirius XM currently.
But if I want that, I can just buy Liberty Media shares today. No?
The short of this is, I don't see a benefit to me. I see a benefit to current Liberty Media holders in the form of flexibility as well as respectable tax benefits, but I am not convinced that this transaction would add value, either now or in the future, to me presently.
Will Liberty use Sirius XM's cash flow to return capital to shareholders through large scale buybacks as Sirius XM is doing, or will Sirius XM's cash flow be used for other purposes unrelated to Sirius XM itself? Would those potential pursuits provide me with greater returns, lesser returns, or losses? That's a problem. Uncertainty demands premium, and the offer requires a vote and the majority of the minority needs to vote yes.
How Much Is Liberty Willing To Give Up?
Another question to consider is, what is the benefit here to Liberty Media shareholders? As stated above, there are tax benefits and flexibility benefits, yes, but are the benefits enough to offer a significant premium that may be demanded by the current holders of Sirius XM?
In order to simply match the original deal based on current share prices of Liberty and Sirius XM, the ratio needs to be sweetened to the benefit of Sirius XM holders by about 10%. If Sirius XM holders are expecting a 10% premium for the added uncertainty, then the ratio needs to be adjusted by 20% above the currently offered ratio.
I am not convinced there is that much benefit to Liberty in this deal, and because of that I do not expect Liberty to offer that much of a premium. Current Liberty holders, in my opinion, would be unlikely to agree to a 0.091 ratio, and Sirius XM investors, in my opinion, would be unlikely to agree to anything less.
It Does Get More Complicated
While I generally like to keep things as simple as possible I acknowledge that this is certainly more complicated. Pages could be written with 'what if?' after 'what if?' If one feels Liberty is undervalued and has greater future promise, par value for Sirius XM may appear attractive. If one feels Sirius XM is overvalued and may suffer, par value for Sirius XM may appear attractive.
But in order to understand possibility and probability, one doesn't have to dig into every little detail and try to flip over every little question mark to find the answer.
Not A Sure Thing
What it all boils down to is this. This 'deal' is far from a sure thing.
From the letter:
The letter provides that no legally binding obligation with respect to any transaction exists unless and until mutually acceptable definitive documentation is executed and delivered with respect thereto. There can be no assurance that the transaction proposed by Liberty or any related transaction will be completed
It's standard practice to include such wording, of course, but I think investors would do well to understand that a deal here is not guaranteed. The offer made a lot of sense for Liberty back when it was made, and Liberty was trading at a relative high valuation while Sirius XM was trading at a relative low valuation.
With each decline in Liberty's share price, so long as Sirius XM's share price does not fall as fast, maintains current levels, or rises, I feel the likelihood of a deal becomes more and more remote. It's something to consider.
Additional disclosure: I am long SIRI January 2015 $2.50 calls.