iPass (IPAS) – Merger Arbitrage – 12% Upside

Current Price – $2.00

Acquisition Price – $2.38

Upside – 21% (less 9% borrow fees)

Expiration Date – Q1 2019

This opportunity was shared by Ilja.

 

Just after closing a previous merger with Artilium (ARTA) last month, Pareteum (TEUM) is again using its shares as a currency in another small ($20m) acquisition of iPass (IPAS). Merger consideration: 1.17 TEUM shares and currently there is a sweet 21% spread. Borrow is expensive (27%), but available on IB. Considering that it will take this merger 4 months to close, borrow fee should consume 9% leaving 12% upside. This deal is conditioned only upon a majority iPass shareholder approval as well as other customary closing conditions. Merger seems to make sense from both operating business and financial point of views, companies are already in successful strategic alliance. Successful and prompt closure of ARTA/TEUM transaction reduces the risk that TEUM cancels the acquisition.

The biggest risk here is TEUM borrow getting more expensive. If borrow fees increase to 50% (it stood at this level during TEUM/ARTA acquisition) and transaction takes 4 months, the whole upside would get eliminated. Worth noting that Pareteum traded significantly higher ($3 vs $2 currently) at the time of the previous merger. Unhedged arbitrage would hardly work in this case due to high daily volatility. Downside is about 30% to the unaffected price.

Pareteum and iPass strategic alliance and rationale for the merger

The businesses are complementary as both companies are providers of Software as a Service (SaaS) and iPass focuses more on WiFi, while Pareteum on cloud software. iPass’ main technology enables wireless users to automatically transition between Wi-Fi and mobile network so that users can always stay connected and lets the company acquire data about customers’ location, which is later monetized. Both companies had a strategic alliance since Q2 2018 and Pareteum has acquired a licence from iPass for over $3m. This licence has quickly turned into a $2m new deal from Pareteum and according to the merger presentation has amounted to 9 sales ($9m.) so far with 8 more deals ($10m) still pending (although it is not clear to me why these new sales are not reflected in iPass revenue growth). So, the businesses are complementary and this alliance has already started paying back. Moreover, in Q2 results call iPass was confident that given how quickly Pareteum turned the licence into sales, they could easily want more from their portfolio and become a $10m/year customer. Having this in mind, Pareteum seems to be getting a real bargain - will pay only $20m in stock, while the alliance has already made them $9m in revenues (albeit margins on these sales are not clear). At the same time this merger would cut-off access to iPass licenses for competitors, as iPass had plans to sell 3-4 more licences this year. Worth noting, that contrary to TEUM/ARTA situation companies have no cross shareholdings in each other at the moment.

iPass in dire situation as standalone company

Merger aside iPass is facing declining revenues for almost a decade as WiFi access for wireless users and networks is becoming less important with dropping costs and penetration  of mobile data - revenues declined from $156m in 2010 to $54m in 2017 and not in a single year company has made a profit. iPass currently burns on average $3-$4m every quarter and actually looks to be not far away from running out of cash - it still has $10m availability under exiting borrowing facility, but access to these funds is at lender's discretion and might be cut-off at any time. Thus, this acquisition might be the last chance for IPAS shareholders to get some recovery on their shares.

If merger is cancelled iPass would have to file for bankruptcy or carry out a dilutive equity raise. iPass has no major shareholders and most of them are retail so taking in account all of the points above, they should welcome this acquisition with open arms. It is also interesting that for a stock with such a minor market cap, iPass’ trading volume is quite large.

Expected Synergies

Companies expect to achieve $15m in annual synergies (out of which $12m are expected to be realized already in the 1st quarter), which are explained in the slide 10 of the presentation and look quite achievable. This level of synergies would amount to c. 50% of iPass total annual operating costs, more than half of the savings coming from corporate payroll and remaining mostly relating to public company admin expenses and higher scale in network access costs.

If these levels of synergies can indeed be achieved (management's comments on reaching most of it already in the first quarter might be overly optimistic), then iPass cash-burn would be stopped and the business would operate around break-even.

TEUM buying cheap revenues

At the acquisition price iPass is valued at c. 0.5x revenues, whereas Pareteum trades at 10x revenues. With this acquisition TEUM almost doubles its revenues and revenue per share metric from $0.5/share to $0.9/share. As management regularly refers to revenue multiple in valuing own company as well as acquisitions, such optical improvement will give it plenty of firepower - yet another argument in favour of TEUM’s willingness to close the transaction.

 

 

8 COMMENTS

  1. dt

    Interesting developments on IPAS/TEUM merger.

    Results of the tender offer indicate that 60% of IPAS shareholders have approved the merger. And the main remaining condition is consent of IPAS lender Fortress.

    https://www.sec.gov/Archives/edgar/data/1053374/000114420419000534/tv510245_ex-a5e.htm

    Principal on Fortress debt is $10m with 22% effective interest rate and the debt is secured by all IPAS assets including IP. As IPAS in in high cash-burn mode ($3m in Q3) it seems that asset or company sale is the only chance for Fortress to get any recovery outside of bankruptcy. This financing was agreed in June 2018, when IPAS was already in dire state and I do not think Fortress was betting on business turnaround. Most likely the underlying asset value was on their mind.

    As of Q3 TEUM had $18.4m in cash, out of which $9m were paid after the quarter end for Artilium. With likely cash burn during Q4 is does not seem TEUM has sufficient funds to cover Fortress debt fully. So most likely negotiations are ongoing on how Fortress debt can either be transferred to TEUM or converted into equity. I do not think that Fortress would be willing to reject the merger outright, as then they would need to find another buyer of IPASS assets in order to have a chance of any recovery on their loan.

    TEUM management noted that the tender extensions will continue until the agreement with the lender is reached. Initial timeline was for deal closing during Q1 2019 and as we are still very early in the quarter.

  2. nostradamus

    Offer has again been extended to February 12th. In the new filings there seems to be no mention of Fortress anymore (or I have missed it; in that case, please correct me), now but the government shutdown is named as the reason for the delay. Could mean the Fortress issue has been solved, but this is obv a bit of speculation on my part.

  3. dt

    So far this trade has generated 11% return (15% on hedged arbitrage less 4% on borrow fees). With only 6% spread remaining, relatively expensive TEUM borrow (17%), as well as uncertainty regarding Fortress consent I think it is prudent to consider closing the transaction.

    Obviously, now that I have posted my opinion on this, in two days Fortress will agree and transaction will close.

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