Talbots' Returns Would Be Big ... If The Merger Goes Through

Jul. 3.12 | About: The Talbots, (TLB)

After more than eight months of back and forth between Talbots (NYSE:TLB) and Sycamore Partners, we're now closing in on a final resolution for shareholders. They buyout price of $2.75 would give current shareholders a 10% return should the transaction close.

Why the large spread? This merger has been unique and presents a variety of risks. Sycamore Partners has been pursuing Talbots for nearly a year. In November 2011 Sycamore gained a controlling interest in TSAM Global Fashions, a large apparel sourcing organization. It's believed that there will be certain synergies between TSAM and Talbots that made Talbots more attractive as an acquisition target for Sycamore.

Here is the history between Sycamore Partners and Talbots:

August 1, 2011: Sycamore announced they owned nearly 7 million shares of Talbots

December 5, 2011: Talbots announced that CEO Trudy Sullivan would retire when a successor was found.

December 6, 2011: Sycamore proposed a $3.00 per share buyout and suggested the offer could be raised if Sycamore were allowed to perform proper due diligence.

December 20, 2011: Talbots notified Sycamore that the offer was rejected and that Talbots was exploring a sale.

January 27, 2012: Talbots and Sycamore entered into a confidentiality agreement so Sycamore could perform due diligence.

February 24, 2012: Sycamore submitted an indication of interest for $3.00 per share and opened the door for a minority equity investment.

April 20, 2012: Sycamore submitted a new offer of $2.65 per share.

May 2, 2012: Sycamore once again altered their offer, this time to $3.05 per share.

May 9, 2012: Talbots finalized its Q1 financial results.

May 22, 2012: Sycamore withdrew its $3.05 offer.

May 29, 2012: Sycamore submitted a new offer of $2.75 per share.

May 30, 2012: Talbots accepted the offer and finalized the terms.

June 15, 2012: Sycamore commenced the tender offer at $2.75 per share.

It's no surprise that investors are still factoring in a high chance of failure. Since Sycamore Partners' first public indication of interest on August 1, 2011, the share price has whipsawed between $4.07 and $1.28. After Sycamore pulled their offer in late May, shares dropped to 52 week lows.

In the latest incarnation, shareholders have until July 13 to elect to tender their shares to Sycamore Partners. Sycamore has announced that they've obtained financing. If it falls through, there is an $11 million breakup fee.

If the deal does fall through, shares would plunge. Furthermore, there doesn't appear to be interest from any other suitors. Sycamore seemed to know this with their frequent offer adjustments.

If the deal goes through, investors buying at today's prices will see a tremendous return. The transaction will close this quarter. With a 10% spread, that gives an annualized return north of 40%. I believe the transaction will be completed. Financing appears secure, and Sycamore has no further ability to adjust the price short of backing out of the deal. There should be no further surprises from Talbots concerning their financial status over the next two months.

Because of the history of this deal, it's prudent to allocate a smaller position size than normal because of the risk. That's what I've done. The completion of the transaction is surely no slam dunk, but I believe there is an additional, unwarranted, risk premium attached to it because of what has occurred over the last six months. Of course, do your own homework. You might want to start with the tender offer agreement, which can be found here.

Disclosure: I am long TLB.