Baffled By Blockbuster's Share Spread

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Includes: BBI, BBI.B
by: Brett Scheiner

Like many public companies in the US and abroad, Blockbuster (BBI) has a dual equity share class structure. While both BBI and BBI.B have an identical interest in Blockbuster's economics, each B share is entitled to 2 votes, versus 1 vote for the As.

While intuition would lend that the "better" B shares would trade at a premium to the As, the A shares have traded at a 20%+ premium for the entire month of April and so far through May of this year.

There are a number of explanations why this is possible (and risks to the trade). First, liquidity of the Bs is lighter than the already thin As, so the opportunity to put on a large trade (and more importantly to take it off) is limited. Second, to play this spread, an investor must short the A shares, which are already borrowed heavily. Blockbuster is due to announce earnings on May 15th, and while a sizable but similar %-age move up in both shares on potentially good news would not affect the value of the spread trade, the short side of the trade could get called away (at the worst possible time).

That being said, a similar trade worked well to those who put it on using Mueller Water's (NYSE:MWA) A and B shares last fall at a similar 20%+ spread. Those shares now trade a few pennies apart. While there are no free lunches (and this trade surely has some risks as outlined above), these A-B arb trades may be the closest thing to a gift any of us ever received from our stingy friend, the stock market.

Disclosure: none