Shareholders of Altaba are grappling with the question of whether to tender some of their holdings into the company’s announced in-kind repurchase offer for 195 million of its shares expiring on July 11.
The offer consideration consisting of shares of Alibaba and cash based on the price of Alibaba offers a nearly 2% gross return for an Altaba holder tendering into the offer, suggesting various trading entities are likely to be setting up new positions to attempt to capture this spread.
In the meantime, for longer term holders who have been seeking to capture a shrinking of the discount between Altaba’s net asset value and the discounted price of its shares, the answer to the question of whether or not to tender Altaba shares for Alibaba shares and cash in this offer is more complex.
A polling of market participants by CTFN analysts suggests that various holders may be under-hedged Alibaba in the wake of the tax code changes that stemmed from U.S.’s Tax Cuts and Jobs Act of 2017.
Because the hedge ratios need to be tax-affected, the proper hedges for Alibaba and Yahoo Japan are lower than what the pre-tax weighting of Alibaba and Yahoo Japan are to each share of Altaba. With the tax rate falling from 35% to 21%, arbitrageurs should have hedged a greater amount of Alibaba and Yahoo Japan per Altaba share, but only the most market-neutral of arbs was likely willing to short more Alibaba than what they were accustomed to shorting when the tax rate was 35%.
Conversations with holders of Altaba by CTFN analysts suggest position hedges typically consist of short 0.3-Alibaba per Altaba share, when the tax-affected hedge ratio suggests this should be closer to 0.37.
The Altaba stub trade has been successful for investors over the past year. Through share repurchases and in part due to arbitrageurs, the discount to NAV that Altaba trades at has narrowed from 30% to 25%, though even with taxes CTFN analysts see room for the discount to narrow further. In addition, by not adjusting hedges and becoming net long Alibaba, arbs have enjoyed some of the 19% gain in Alibaba this year as well.
To create the Altaba “stub” one takes a long position in Altaba coupled with shorting approximately 0.3 shares of Alibaba and short 1.0 share of Yahoo Japan (YAHOY) per Altaba share. Since June 30, 2017, this stub package traded for $3.55 and closed on June 19, 2018, at $12.23.
One arb that CTFN recently spoke to said that arb books are “filled to the gills” with the Altaba stub. This person suggested some may prefer to tender a portion of their Altaba shares for portfolio reasons or even for the quick trade.
How many of the 195 million shares that Altaba is willing to exchange will be tendered into the offer? Given the various dynamics and especially the large expected remaining discount to NAV even pro-forma for the buy-back, CTFN analysts are expecting proration to be high and possibly 100%.
The question remains whether the present self-tender will hasten the further shrinkage of the existing discount to NAV. In the most optimistic scenario, Alibaba will be spurred to approach Altaba with a share for share deal, though assuredly still at a discount to NAV.
Alternatively, resolution could mean an announced liquidation, where taxes would be paid by shareholders but not by both the corporation and shareholders as is the case in the present tender offer. It may take such a dramatic announcement to get Alibaba to pay sufficient attention to what is happening with its largest shareholder and step up with a better deal.
Management of Altaba is willing to pay corporate taxes of $4.5 billion in the current tender offer if it is fully subscribed, but this does not seem to be negatively impacting the trading of the Altaba stub, which recently traded at a record high.
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