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 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.
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.