Current Price –$14.06;
Offer price – at least $15.36 + $0.4 in dividends, a total of $15.76;
Upside – 12%
The tender offer is expected to be announced at the beginning of Q4 2016 and completed by the end of the quarter. Dividends will be distributed for record holders as of 30th of September 2016.
Caution: The below listed idea is more complicated and risky than the usual ideas posted on this site. Please due your own due diligence before investing.
In the proposed transaction ZAIS Financial (ZFC) is merging with Sutherland Asset Management (currently private company) – in a way this is a reverse merger for Sutherland, which is 4 times larger than ZFC and which failed to get public on its own. The transaction itself seems to be structured quite unfavorably for ZFC shareholders as the assets are being sold at significant discount to book value. So in order to raise chances of shareholder approval a tender offer for the existing ZFC shareholders was proposed. After giving effect to the mergers, continuing ZFC common stockholders will own between approximately 14% and 24% of the diluted common equity of the combined company, and former Sutherland stockholders will own between approximately 86% and 76% of the diluted common equity of the combined company.
ZFC will commence a tender offer to purchase a number of outstanding shares of ZFC common stock having an aggregate value of up to $64.3 million. The tender offer will be made at a price that will be not less than $15.36 per share, which is equivalent to purchasing 4.19m shares or 47% of fully diluted ZFC shares.
Considerations and Risks:
- The whole transaction, including tender offer is subject to shareholder vote on the 27th of September. Largest shareholder (8% owner) is opposing the merger and argues for liquidation instead. Arguments can be found in the 13D filling. ZFC’s rebuttal is in management’s presentation. While I do not have a very strong opinion on how the vote is going to turn out eventually, ZFC shares already trade at 25% discount to book (with majority of book value comprised of cash holdings), so downside seems to be quite protected even if the deal gets voted down. Also ZFC sold down majority of its assets, so if the transaction is voted down, liquidation is really the only option to go and might result in even higher payouts for shareholders.
- The tender offer is likely to be oversubscribed and it is not clear whether there will be any odd lot provisions (most likely not). If all of the current ZFC shareholders tender, only 47% of the shares will be accepted for cash and the rest will be returned in the shares of the merged company. There might be possibilities to hedge this risk right after the tender expiration.
- ZFC share count will increase c. 4x after the merger and at least part of new shareholders (current investors in Sutherland) might want to cash-out right away creating short term price pressure for the shares of the merged company. However, in the longer term the downside also seems to be well protected by the BV of the merged company (commercial mortgage REITS tend to trade around BV), which is expected to be c. $16.3 after deducting all transaction related fees and etc. For unhedged position to start loosing money the shares of the combined company need to drop to c. $12, which would be 25% discount to book – quite extreme for relatively liquid mostly commercial mortgage REIT (ZFC if residential mortgage REIT, which tend to trade slightly cheaper relative to book value).
- The bottom line is that even-though there is uncertainty with regards to the shareholder vote as well as proration, the downside seems to be well protected even for unhedged scenario. Nevertheless high short term volatility after voting results as well as on the first days of trading of the combined company is very likely.
None of the items expressed above should be considered an investment advice. Please do your own due diligence before investing.