Healthscope (HSO.AX) – Merger Arbitrage – 14% Upside

Current Price – A$2.26

Acquisition Price – A$2.585

Upside – 14%

Expiration Date – TBD (shareholder vote expected in Q2 2019)

Acquisition Proposal

This idea was shared by Ilja.

 

This is merger arbitrage situation with two actively engaged bidders.

Healthscope is an Australian company which operates private hospitals, medical centres and International pathology services. It is viewed by investors as a long-term bet on Australia’s aging population and since mid 2018 it has been a takeover target of two bidders – consortium led by Australian private equity company BGH Capital and Canadian financial giant Brookfield Asset Management.

The whole play is continuing for over half year and Brookfield’s latest bid (non-binding) is at A$2.585/share or 14% upside to current prices. The binding offer is expected in a few weeks.

Downside to the unaffected price is 11%.

 

Here is short timeline of the events so far:

• April 26. BGH consortium made an unsolicited and conditional offer of A$2.36 (16% premium to the last closing price). Healthscope shares jumped to $A2.49.

• May 14. Brookfield topped this with a non-binding C$2.5/share offer. Healthscope shares jumped to C$2.59.

• May 22. Healthscope rejected both bidders and decided to make a strategic review.

• October 10 – October 22. HSO shares dropped 10% (although no filings or news were released).

• October 23. BGH made the exact same non-binding proposal. In the document they claim that Ellerson Capital (private investment manager, which holds 10% of HSO + another 6% from their clients) is supporting them. 5 days later BGH acquires another 1.53% of HSO for an average price of A$2.12 after which the consortium (Ellerson is not included) had a total of 17% of HSO shares. Healthscope shares recover after the fall, but this time don’t come close to the offer price.

• October 30. As I understood, Ellerson Capital clarifies that they don’t specifically support BGH offer, but are simply not opposing the sale of the company at the price that BGH has offered. A superior proposal would obviously change whom they support.

• November 12. Brookfield has sweetened the offer to C$2.585/share. Healthscope said that BGH won’t be allowed to make due diligence as their offer is less attractive. Market’s reaction again was way more conservative compared to the time of initial bids.

• Nov 19. Brookfield got due diligence until the 21st of December.

• Dec 21. Brookfield has confirmed that based on the due diligence and financial discussions so far it has no reason to believe it won’t proceed with the binding proposal. Due diligence is extended until the 18th of January.

• Dec 21. On the same day BGH has indicated that they are ready to commence due diligence as soon as possible.

 

Two simultaneous offers

Brookfield actually made two offers – a scheme of arrangement for $2.585/share and if it fails, an off-market offer for A$2.455 with a requirement of 50.1% of approvals:

Under an off-market takeover bid, the bidder makes individual written offers directly to all target security holders to acquire their securities in return for payment of the offer price. Target security holders are free to decide whether or not to accept the bidder’s offer – if they accept the bidder acquires their target securities.

Such simultaneous double offer is not very common, but it is actually cleverly made to deal with BGH consortium’s voting power. In case the scheme gets voted down by BGH, Brookfield will try to at least get the controlling stake with the off market offer. In Australia, for a scheme of arrangement to succeed at least 50% of the shareholders have to vote and 75% of the votes have to be in favor (correct me if I am wrong).

 

Further Considerations

Out of 19% that the consortium currently holds, 15.6% is owned by the largest HSO shareholder AustralianSuper. Brookfield has also targeted them by setting the timetable (scheme meeting no earlier than the 1st of April), which is one day later than BGH and AustralianSuper exclusivity agreement expiry date of the 31st of March. This will allow the largest shareholder to reconsider and maybe express support for Brookfield’s offer instead. Furthermore, Brookfield’s proposal gives an option to receive a part of the consideration as shares in an unlisted company controlled by Brookfield that would own 100% of Healthscope. This would allow AustralianSuper and other interested parties to rollover their shares and remains owners in the business.

Brookfield has also mentioned that a part of the offer consideration will come as dividends/capital return. No certain amount has been determined, but the cash part A$2.55 (for scheme) and A$2.42 (for an off-market offer) won’t be changed. This is done due to the taxation reasons and might be relevant for Australian investors.

Brookfield does not own any significant amount of HSO, so if BGH manages to top the offer it instantly has 35% (current 19% + 16% from Ellerson) of the votes. Nonetheless, I don’t understand why do they still keep pushing their considerably weaker proposal (21st Dec).

Healthscope management confirmed that operating performance in Q1FY19 (ending Sep 2018) has been in line with expectations and reaffirmed EBITDA growth guidance of at least 10% relative to FY18. Thus in case both bids fail to materialize, I do not think the stock stock will drop below the unaffected price (11% downside).

This is relatively large transaction (A$4bn market cap) so likely to be quite widely followed and spread most probably represents the risks accurately.