I haven’t provided an update on the Univar/Nexeo transaction in a while and given some questions I have received on the warrant mechanics plus general volatility in the market, there couldn’t be a better time.
First of all, let me just re-iterate that I think this is a good transaction. PF Univar is trading at a very cheap multiple and I see solid upside if the company realizes synergies and trades at just 10x EBITDA.
The warrants in Nexeo should strongly benefit from this over time, if the higher price is realized. Following the acquisition, warrant holders will be entitled to receive the “Merger Consideration” through their expiration. For background on this, check the warrant agreement as well as recent proxies where it clearly outlines a PF balance sheet “adjustment to record the fair value of the Nexeo outstanding warrants (exercisable through 2021). Upon completion of the merger, the warrants will be converted into the right to receive, upon exercise, the merger consideration consisting of Univar common stock and cash, in accordance with the terms of the Warrant Agreement.” As we all know, the merger consideration swings based on the value of Univar’s stock.
As shown below, based on Univar’s stock price, the equity consideration as a % of total drops below 70%. This is important because based on Section 4.4 in the Warrant Agreement, the strike price will be lowered.
You can read the definition for yourself, but the strike price will be lowered by the difference in the strike price and (i) the per share consideration value and (ii) the Black-Scholes value.
As of right now, the “consideration” is around $8.83 (Univar is trading at around $19.50 at the time of writing) derived from the equity holder receiving $5.95 of value in Univar stock ($19.5 x .305) plus $2.88 in cash (minimum amount).
Therefore, taking the strike price of $11.50 less $8.83 less the Black-Scholes value of the warrant should get us to the new strike price.
What is the Black-Scholes value?
Well, Univar in its most recent proxy noted it uses an Option life of 2 years (the warrants don’t expire until 2021), volatility of 23.8%, and a risk free rate of 2.8%. Plugging this into a spreadsheet and using Nexeo’s price today of $8.96 gets a implied value of $0.58.
In sum, we take $11.5 less $8.83 less $0.58 and that gets us $2.09. This is the amount the warrant strike will be reduced by. In other words, $11.50 minus $2.09 = $9.41.
What is the catch?
There seems to be one catch involved here. This is also from section 4.4 of the warrant agreement:
if less than 70% of the consideration receivable by the holders of the Common Stock in the applicable event is payable in the form of common stock in the successor entity that is listed for trading on a national securities exchange or is quoted in an established over-the-counter market, or is to be so listed for trading or quoted immediately following such event, and if the Registered Holder properly exercises the Warrant within thirty (30) days following the public disclosure of the consummation of such applicable event by the Company pursuant to a Current Report on Form 8-K filed with the SEC, the Warrant Price shall be reduced by an amount….
To me, the catch here implies that you must exercise the warrant within 30 days of close of the deal. However, the warrants may still be out of the money. That being said, if they are even slightly in the money (break even moves up to $21.5 for UNVR’s stock), it may make sense to take risk off the table.
I plan on following up with the investor relations folks to make sure I am thinking about this last component correctly.
What are your thoughts?
2 thoughts on “Warrant Update: Current trading levels imply a reduction in the strike… but also appears to be a catch… $NXEO $NXEOW”
Thanks for the update. I went back and reread the warrant agreement and to me it looks like that 30 day window is the only time period where the warrants strike can be adjusted, but I could be wrong. I would be curious to see what investor relations has to say about this. What are your thoughts on the market price of the warrants? Should the warrants trade higher based on the fact that the strike price decreases as Univars share price decreases. If I am correct about the 30 day window and the strike adjustment it looks like there is very little downside in owning these warrants if you think Univar is undervalued.
What are your feelings on exercising the warrants in the 30 day window versus holding them after that period expires.
Thanks for the question. I talked to NXEO today and you are correct in your thinking. The warrant strike price lowers, but only 30 days following close of the transaction. Thereafter, you still have 2 yrs to exercise, but at the old strike price ($11.50).
So it really will depend on what the value of the underlying is. As of right now, it appears to me that you would be locking in a loss upfront, but then have a long-term security (UNVR stock). On the other hand, you still have 2 yrs of option value and don’t take the upfront loss. I see both sides of it. Today the warrants were quoted at $0.37-$0.39, which seems too cheap to me (as someone who thinks UNVR is worth more than >$30), but I guess we’ll just have to wait and see.