Posted on 15 Sep 2011
Time is running out on Transatlantic Holdings’ attempt to merge with Allied World Assurance.
Transatlantic shareholders are scheduled to vote on the combination of the specialty insurance companies on Sept. 20, and it appears increasingly likely that they will vote no. In anticipation of this no vote, Validus Holdings, a rival reinsurer that is making a hostile competing bid for Transatlantic Holdings, is increasing the pressure on the Transatlantic directors. On Wednesday, Validus filed a consent solicitation to remove the Transatlantic directors and replace them with people it believes are more willing to auction the company.
Last week, the prominent proxy advisory firm Institutional Shareholder Services recommended that its clients vote against the transaction. Since the combination was announced in June, Validus and Berkshire Hathaway’s National Indemnity have made unsolicited offers for Transatlantic. I.S.S. stated that while the Allied World combination “provides sensible strategic benefits,” it would foreclose the “pool of potential bidders” willing to pay a higher premium for Transatlantic. All of the other major proxy advisory firms have also recommended a no vote.
The I.S.S. recommendation will very likely nudge some large institutional shareholders to vote against the deal. Pushing even more shareholders against the deal, though, will be Transatlantic Holdings’ share price, which is above the value of the stock they would receive in an Allied World combination. The final straw appears to be Transatlantic’s largest shareholder, Davis Select Advisers, which owns a 23.6 percent stake and has come out against the transaction. Because of an agreement with Transatlantic, Davis can only vote up to 9.9 percent of Transatlantic stock, but this should be enough.
This proposed tie-up appears heading towards defeat.
With the negative I.S.S. recommendation out, Validus has taken the opportunity to push forward its case through the consent solicitation, letting Transatlantic know that it has no intention of dropping its hostile bid. Given Transatlantic’s share price, neither Validus nor National Indemnity needs to do much more until the vote. The two other bidders can sit back and let shareholders make the choice to vote down the transaction in the hope of receiving more for their shares.
The wild card is whether Allied decides to turn this merger of equals into a straight-out acquisition by paying a premium for Transatlantic.
The dynamics are working against a last-minute increase by Allied.
First of all, Allied would have most likely undertaken this move before I.S.S. made its recommendation in order to influence it.
There is also a quirk of Delaware law that is holding Allied back. Since Transatlantic never agreed to sell itself, only to combine in a stock-for-stock deal with Allied, Transatlantic is not subject to Revlon duties. Revlon duties, a Delaware law principle, require a company that has decided to sell itself to accept the highest price reasonably available. But Delaware does not consider a stock-for-stock merger a sale but rather a combination of two companies. Revlon duties do not apply.
Allied does not want to push Transatlantic into the Revlon paradigm. If it did, then Transatlantic would be on much shakier ground in rejecting a higher monetary bid like National Indemnity’s. If Allied raised its bid, it would have to do so largely in stock to avoid setting off these Revlon duties. Allied may not want to risk such dilution.
If Transatlantic Holdings shareholders reject the Allied combination, Transatlantic will be required to pay $35 million to Allied World. I.S.S. claims a no vote would enhance Transatlantic options, but it would also very likely push one buyer, Allied World, off the bidding table. Transatlantic would then be faced with managing the two competing bids of Validus and National Indemnity.
Until now, Transatlantic has been hobbled by the merger agreement it reached with Allied. The agreement includes a strong array of provisions known as lock-ups that are intended to deter competing bids. For example, the agreement includes expansive information rights that require Transatlantic to update Allied at least once a day with the status of any discussions with any third parties.
The agreement also includes a requirement that any prospective bidder must enter into a standstill agreement that lasts for two years before Transatlantic can provide the bidder information about the company. The two-year requirement in this case is particularly egregious.
While National Indemnity has agreed to such a provision, Validus refused. Instead, Validus has decided to take its stock-and-cash offer directly to Transatlantic shareholders. Validus has begun an exchange offer and is soliciting shareholders to vote no against the Allied transaction. Validus most likely took this step because the standstill provision would force it to drop its exchange offer and proxy solicitation against the shareholder vote.
Transatlantic could then refuse to speak to Validus, a real risk, since Transatlantic also rebuffed Validus’s approach only a few weeks before it announce the Allied World combination. This is why standstill arrangements for a competing bidder can often act to deter offers.
By going forward on this basis, Validus is implicitly admitting that it cannot reach a deal while the Allied transaction is pending. Instead, Validus is betting that the Allied World combination will fail.
Meanwhile, National Indemnity is on radio silence as it is effectively required to be by this standstill requirement. National Indemnity may still be negotiating with Transatlantic, but to the extent Transatlantic is slow-walking the process, National Indemnity is stuck unless it brings litigation to escape this standstill requirement. Any litigation would not be resolved by the time of the shareholder vote next week in any event. National Indemnity is also waiting until the Allied World deal is voted down so it can bid free of the advantages that the Allied World-Transatlantic merger agreement provides to Allied World.
The end of the Allied World deal will change this dynamic.
Transatlantic may still resist these two unsolicited bids. Transatlantic has adopted a low-threshold poison pill that prohibits any bidder from acquiring more than 10 percent of its stock. Transatlantic therefore can fight off a pending bid unless its directors are removed and replaced with directors more willing to redeem the poison pill and sell the company.
Transatlantic has this option because of Delaware law. Again, since Transatlantic never agreed to sell itself, it is not subject to Revlon duties.
Transatlantic can thus refuse to sell and sit tight, claiming that it can provide more value to shareholders as an independent company. Transatlantic has already asserted that it has the ability to reap significant shareholder returns as a standalone company. Transatlantic can still make the case that the combination with Validus will be of lesser value than the standalone option. In fact, in the weeks leading up to the Allied agreement, Validus contacted
Transatlantic about a transaction and was rebuffed.
National Indemnity, of course, is a Berkshire Hathaway company, and if it follows Warren E. Buffett’s mantra to avoid bidding wars and never go hostile, it will very likely stick with its $52-a-share cash bid. But National Indemnity’s bid values Transatlantic at about 77 percent of book value. In a stock deal, Transatlantic shareholders would have the opportunity to participate in any future gains as share pricing for reinsurance companies recovers. A cash deal like National Indemnity’s cuts off Transatlantic shareholders from such a benefit.
This explains Validus’s filing of the consent solicitation on Wednesday. Validus is attempting to push Transatlantic into a sale process, akin to a level-playing-field auction without the problem of the Allied merger agreement and its lock-ups.
Validus has a battering ram to do this. Transatlantic’s directors can be removed without cause at any time by written consent of its shareholders.
Validus is attempting to do this through the consent solicitation and otherwise force the directors to agree to a sale process. Validus has a powerful offensive tool that Transatlantic directors will find hard to fight against, given that shareholders are expressing a willingness to sell.
If shareholders do vote down the Transatlantic-Allied World combination, this is very likely only the beginning of the Transatlantic sale process.