Verso (VRS) – Expected Higher Offer – Upside 18%

Current Price: $20.33

Expected Offer: $24.00 (updated, see Nov comments)

Upside: 18% (expected)

Expiration Date: TBD

 

Back in July graphic paper manufacturer Verso received an all-cash takeover offer from its largest (9% and two board seats) shareholder Atlas Holdings at $20/share. VRS formed a special committee and after two months since the initial announcement released a strict communique that it will only accept a bid that is ‘meaningfully’ above the previous one. The way that the press release was worded suggests Atlas is open to/considering an improved bid. Negotiations and due diligence are ongoing – with two seats on the board since 2019 Atlas should know the business fairly well and negative surprises are unlikely. The market agrees with this – shares jumped promptly following the latest press release. Overall, the set-up here indicates a decent chance of a price bump whereas the downside seems limited.

The special committee of the Board of Directors of Verso previously communicated to Atlas its determination, made in consultation with its financial and legal advisors, that Atlas’ previously disclosed $20.00 per share all-cash offer to acquire Verso was insufficient and that the Special Committee would only consider a potential transaction if Atlas meaningfully increased its offer from $20.00. The two parties agreed to exchange additional information under the terms of the Agreement to facilitate ongoing discussions regarding a potential transaction with Atlas on mutually acceptable terms.

Several aspects indicate that the offer is likely to be raised:

  • The way the confidentiality agreement press release is worded clearly shows that Atlas decided to continue negotiations even after the board has firmly expressed ‘determination’ that the current offer is too low. I don’t think the buyer would continue wasting its own and company’s time if it wasn’t prepared to place a higher bid.
  • Aside from Atlas, there are 2 other activists/major shareholders present – Hoak Public Entities (8.4%) and SCW Capital Management (7.1%) and one minor – Blue Wolf (ran the activist campaign with Atlas in 2019). Activists had plenty of time to comment/reject Atlas’ bid but didn’t, which suggests that they are not against the sale.
  • VRS did a tender offer for 10% of shares in June at $16.0-$18.3/share range. None of the above-mentioned activists participated. The offer was eventually priced close to the upper limit at $18.1. This validates the notion that the majority of shareholders consider VRS to be worth more than $18/share and likely more than $20/share as otherwise they would have participated in the tender. At the same time, $18/share is a likely downside (-10% from current levels) in case the acquisition offer breaks, especially given strong Q2’21 results, which came out after the tender and after the buyout proposal.
  • One of the activists, Hoak Public Entities has recently purchased $21 strike calls with Oct’21 expiration for $118k+. Although the sum is tiny, it’s evident that Hoak also expects a bid raise at over $21/share.
  • The board is clearly shareholder-value-orientated. After the proxy fight in 2019, the new board has successfully streamlined the operations by selling or closing down non-core assets and in the process returned $200m (one-third of the current market cap) to shareholders since the beginning of 2020 through special dividend, tender and open market purchases. Buyback authorization for a further $50m is in place. These moves increase the likelihood of a favorable outcome here.

Valuation aspect is my weak spot for this case as there is really not much color I can add. Paper/pulp industry is in a slow gradual decline, so the attractiveness of the business is limited. Verso financials are messy and it is hard to judge if VRS H1’21 EBITDA presents normalized earnings after the turnaround and Covid. For this bet, I am tempted to trust the actions of activists (i.e. not selling in the $18 tender) and the board (arguing $20/share is way too low). Nonetheless, after the turnaround, VRS at the very least might be a decent cigar butt investment at current prices for the acquirers.

20% offer increase would raise the valuation from the current 4.8x adjuted EBITDA (H1’21 run-rate) to 5.5x, which is still below the 7x valuation at which a larger competitor Domtar is getting acquired. However, worth noting that Domtar is significantly larger, more profitable, and is being acquired by a strategic buyer (peer). Nevertheless, this still leaves room for an improved offer. The expected 20% increase might be overly optimistic, but not sure if a 10% bump would fit board’s definition of ‘meaningful’ improvement over the current $20/share offer.

 

Verso

Verso produces coated paper, which is used primarily in printing applications for magazines, catalogs, brochures, specialty packaging, etc. The company has been in transformation mode lately, trying to cope with the declining industry trends and COVID-19 impact. It seems that these efforts have been successful and Verso was able to either sell or shut down several least profitable mills, significantly increasing the operating leverage and profitability. Both 2021 quarters were quite strong with H1 adj. EBITDA at $82m. The current run-rate is in line with 2019 EBITDA despite a significantly lower asset base.

Some recent industry tailwinds are also helping the company’s pricing power (PR):

Continued capacity reduction in the industry, combined with heightened demand as the economy reopens, is driving growth in order rates and backlogs as well as price increases across our product lines.

 

Risks

In case Atlas is not ready to make a ‘meaningfully’ improved bid, the acquisition most likely fails and shares could trade down to $18 resulting in a 10% loss for this bet.

7 COMMENTS

  1. g4734g

    The most interesting thing is the date of the calls the activist took out for OCT….while they may run out of runway in the next 6 days, it suggests their belief that this thing comes to a head rather quickly and does not drag on.

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  2. g4734g

    I have a follow up question. I only see options in increments of $2.5, so 17.5, 20, 22.5 and 25……..how was the activist able to purchase 21 strike?

    1. Ilja

      $21 price was definitely available for Oct’21 options when the article was published. But it’s quite strange that it’s not with all of the following options.

  3. dt

    Our VRS price target has been reached, however, with the most recent updates, I think there might still be plenty of upside left. We are tempted to wait how the discussions with Atlas turn out – based on improved EBITDA figures an offer of $30/share seems feasible.

    Verso has recently reported very strong Q3 results. The company is continuing to ride macro tailwinds and strong demand for its products in light of reduced industry capacity and increased pricing. Revenues were up 11% YoY, adj. EBITDA at $67m vs $12m Q3’21 and $52m in Q2’21. The company has strong, debt-free (except for pension liabilities) balance sheet with $166m in cash ($5.60/share).

    Going forward Verso expects consistent volumes and continued pricing improvements. It was said that adj. EBITDA should go north of $70m/quarter shortly:

    So you know, if you think about a base of $70 million, and if where we do our job and improve our execution, improve on energy, improve on how we schedule the mills and better conform do the schedules that we have, $70 million should be a springboard you know, with good execution to go higher.

    Discussions with Atlas are still ongoing, however, the company has reiterated that it won’t accept the offer unless it is materially higher.

    Meanwhile, the company seems to be pushed by Hale Hoak (major shareholder, activist) to return cash to shareholders:

    Hale Hoak
    Okay, great. You know, per our math, you’re going to have over $200 million of cash by year end. And I know, Hamed asked kind of about your goals for that. You know, we’re only one voice, but we own almost 10% of your company. And you know I think any investments you can make to continuously improve the future earning power of the business, we’re in favor of anything you can do to lengthen the life of the business or slow the secular decline is great. But beyond that, I’d rather have the cash in my pocket earnings zero than on your balance sheet.

    Randy Nebel
    You know, I think I’ve heard that from you before.

    Hale Hoa
    Yeah. Okay. Well, congrats on a great quarter and we look forward to seeing you at fourth quarter results as well.

    Given Verso’s track record of capital returns (special dividend, tender offer, open market buybacks) over the last few years, another major capital return transaction could be in the cards here.

    Assuming $70m adj. EBITDA for Q4, the company now trades at 4.1x adj. EBITDA E2021, while Atlas’ offer stands at just 3.6x – materially below similar transactions, e.g. Domtar. A bump to 5x would result in $30/share offer price.

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  4. Eric

    Is there anything to read from atlas going after RRD? Not sure how much capital they have (perhaps that precludes them from doing this deal as well?) or any other relevant considerations.

  5. dt

    Great news for Verso – a new bid from another buyer at $27.00. Not clear if Atlas is still interested – raising the bid from the initial $20/share to something above $27 might be too tough, especially considering that the new buyer is a strategic investor and likely sees some synergies from the transaction, whereas Atlas would have been a pure financial investor. Maybe Atlas only wanted to put the company in play with its low-ball offer. Proxy should reveal some bits of the background story.

    Verso Corporation today announced that it has entered into a definitive merger agreement under which BillerudKorsnäs AB will acquire all of the outstanding shares of Verso for a purchase price of $27 per share in cash, or approximately $825 million1. Verso’s Board of Directors, acting upon the recommendation of a special committee of Verso’s Board, has unanimously approved and resolved to recommend approval of the merger by Verso’s shareholders. The transaction is expected to close in the second quarter of 2022.

    <...>

    The acquisition of Verso is fully in line with BillerudKorsnäs’ strategy to drive profitable growth in paperboard, and the ambition to expand into North America. BillerudKorsnäs aims to build one of the most cost-efficient and sustainable paperboard platforms in North America by converting several of Verso’s assets into paperboard machines while maintaining Verso’s position as a quality and cost leader in specialty and coated freesheet paper.

    <...>

    BillerudKorsnäs provides packaging materials and solutions that challenge conventional packaging for a sustainable future. We are a world leading provider of primary fiber based packaging materials and have customers in over 100 countries. The company has seven production units in Sweden and Finland, and about 4,400 employees in over 13 countries. BillerudKorsnäs has an annual turnover of approximately SEK 24 billion and is listed on Nasdaq Stockholm.

    https://finance.yahoo.com/news/verso-corporation-acquired-billerudkorsn-ab-231500779.html

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    1. dt

      The spread to the new offer was eliminated in the opening and we are closing Verso case with +33% gain in 3 months.

      VRS stock had traded back to the write-up levels over December making this idea as actionable last week as it was when we published it.

      As per the comment above, an outbid by Atlas is unlikely – VRS board has already agreed to the new offer and Atlas has two board seats.

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