General Growth Properties (GGP) – Merger Arbitrage – 7.6% upside

Current Price – $20.25

Acquisition Price – $21.73

Upside – 7.6%

Expiration Date – Q3 2018

Takeover Announcement

This idea was shared by Michael.

 

Probably my favorite deal this month is the takeover of General Growth Properties (GGP) by Brookfield Property Partners (BPY). GGP had a liquidity crisis during the great recession, and the Brookfield entities plus others recapitalized it at that time. Brookfield is going from a big stake to full ownership, and they are doing so at a time when mall owners are generally trading at low prices. There has been quite a bit of noise that the price is insufficient, and BPY has raised their offer once. The current offer is for one BPY share or $23.50 in cash. Both GGP and BPY.UN have sold off since the announcement, so the cash is worth more than the share option, and you can expect to be close to fully pro-rated to the cash limit.

In that case, the consideration would be $14.34 USD and 0.39 BPY, which is worth $7.39, so the total comes to $21.73, compared to a current price for GGP of $20.25, which is a 7.3% spread. There are also the dividends to consider, as the logical trade here is shorting 0.39 BPY for every long GGP. BPY pays a $0.315 dividend per quarter compared to GGP’s $0.22 per quarter, but being only short 0.39 BPY means the short position will pay out only slightly over $0.12 per quarter. Also, GGP has a dividend record date on the 13th of April, so no matter how long it takes if you collect the first GGP dividend you’ll always have at least as many GGP dividends in as BPY dividends paid out. It is worth noting I think that I shorted BPY in Canada under the symbol BPY.UN. It trades at the same effective price, but the cost of borrow is lower (through IB) at 4.6% per year. There are a lot of moving parts here, so I made a table assuming the deal takes one full year to close, which I think is conservative. That means you pay borrow for a full year, and both pay and receive 4 dividends. A shorter timeline means you’d pay less borrow, and could receive more dividend payments than you pay. It works out to a 7.6% return, although the return and IRR could be much higher if it closes faster, which I think is probable.

GGP BPY merger

While there are a variety of folks making noise about this being insufficient consideration, I think it’s likely to close. Brookfield has committed to creating a US REIT subsidiary of BPY which will be convertable into BPY units. That’s important, because BPY is a Canadian limited partnership, so it isn’t great for some US investors tax wise, while a US REIT is less problematic. Presumably anyone who owns GGP can own US REITs. I doubt a competing bid comes in from elsewhere, as Brookfield already owns a blocking stake in GGP. I also doubt the deal gets blocked, as GGP shares would fall on a failed deal, and anyone who thinks malls are truly worth a 4.5% cap rate can always take their proceeds and buy one of the other beaten down mall REITs. It seems likely to me that anyone who doesn’t like the deal is selling out now to rotate their exposure while arbitrage buyers (who will vote in favor) buy in, which makes the deal more likely to close.

It is worth noting that in the BPY presentation on the deal, they estimated it would close in Q3, which implies no more than 6 months to close, which would put the IRR comfortably into the mid teens.

Published on: April 9, 2018  •  Published by:
Category: M&A  •  Member Ideas

12 COMMENTS

  1. dt

    Thanks for sharing. Couple questions:
    - I am struggling to understand what this sentence from the press release means: “The consideration in the transaction will be structured as (1) a dividend by GGP paid in cash and equity (subject to proration)…”. Might there be some unfavorable tax implication due to this ‘dividend’ strucutre?
    - If the deal breaks, what is the downside? GGP pre-announcement share price was $19 but I am guessing mall REITs have traded down further since then.
    - Also, dividends on the short leg will be paid in full, whereas only after tax dividends will be received on the long leg. So any upside from dividend differential will be smaller than in the table.

  2. Michael Bumstead

    I’m not a tax advisor, and it will depend on jurisdiction. However, if you had the dividend paid in cash and paid tax on that, there would be an offsetting short term loss on the equity piece, as the long would close. Seems like it should be a wash. Also, dividends paid on a short position are tax deductible in the US if you have the short for more than 45 days, with a few conditions. See: https://www.forbes.com/sites/greatspeculations/2016/09/21/irs-short-selling-rules-can-be-a-taxing-matter/2/#6bd093365818

    If the deal breaks I agree that long GGP might trade down with the mall reits. However, I think that is really unlikely. Brookfield has been trying to buy this for nearly a decade, and if this falls through I’d expect them to make another approach. In many ways I think the most likely outcome from a deal break would be another tender at a slightly higher price.

  3. dt

    BPY/GGP spread remains at c. 7%, but BPY borrow costs jumped to 33% making hedged trade non-economical here.

  4. greg lia

    The recent divergence, including today of GGP and BPY is really something. A week or so from vote and possible $14.34 ex dividend and spread now well over 7 percent. I am assuming concerns over tax implications of dividend (as DT pointed out above) , possible restrictions on holding BPY in tax deferred account, and sheer volume of BPY shares that must be issued are the cause as opposed to concerns regarding outcome of vote? Anyone have other thoughts on the recent widening of the spread?

    1. mcg mcg

      Offshore holders have bad tax implications as well. Uncertainty in BPR election as well

  5. dt

    The spread has narrowed to 2%, however high borrow costs (40%+) of BPY made it impossible to exploit this special situation.

  6. RJ

    Do we know the exact closing date? I have read the end of August but was looking for something more concrete.

    The borrow rate for BPY is now -55%, I’m assuming the borrow cost will go to ~0 once the new BPY units are issued and the deal closes.

    1. dt

      Exact closing date has not been announced to my knowledge. After the deal closes it will be too late to hedge.

        1. RJ

          Not looking good for the 24th, they have not even announced the results of the election yet.

          28th seems more likely IMO

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