BCE Takeover part 3

Over the past two days, the precision of the dead tree media’s reporting around the pending takeover of BCE Inc. (BCE:TSX) has become quite telling. Make no mistake, you are reading these detailed stories because the company’s LBO suitors want you to.

When we first posted about this topic two weeks ago, the details were sketchy: Was it KKR? Were they working with Teachers, or not? Did they actually meet BCE management and make an offer? How long ago?

Based upon the news this am of an informal $32 billion offer, you can piece more of this developing story together, and the factoids confirm some of our suspicions: first and foremost that this takeover is happening, it is only a matter of time. How can individual investors reach that educated guess on their own? Here’s where to start:

– we now read that at least one buyout fund is prepared to offer a specific number, $40/share, which is a great premium to the moribund $29 that the stock was trading at (or below) prior to the takeover rumours;

– every existing BCE institutional shareholder knows that the stock is going to drop $5 a share (~15%) if BCE successfully rebuffs this PE interest. AGF, for example, is a case in point: Martin Hubbes is the very talented fellow who manages the $875MM AGF Dividend Income Fund (among other funds). His 7th largest investment is BCE with $30MM in stock. Given the choice between tendering to a $40 bid or watching his 3.5% weighting sink back to $29, which is he going to choose? With around one million shares in this one fund at last count, the swing is over $11 million – which means his fund’s quarterly performance will swing over 1% depending on how this turns out. And since a dividend fund manager is a hero if he/she produces an annual return of more than 10%, this deal may be a deciding factor on the fund’s performance for 2007. And that’s just a single BCE position in one of AGF’s many funds;

– two of Canada’s three largest institutional investors (Teachers and CPP Investment Board) have allowed their names to be associated with a potential bid; the reason why the media are able to throw these gorilla fund names around is solely due to the fact that the pension funds in question: 1) are sincerely interested in being part of any winning bid, 2) want other bidders to know they are “at the table”, 3) know their Canadian roots give the federal government the political cover it needs should some try to rope them into a debate about the “hollowing out of Canada”, and 4) want the entire BCE board of directors to know they are interested, for fear that the message is being muted by BCE management, the Board Chair or their financial advisors;

– no special dividend or share buyback can defeat an all-cash $40 offer. If the stock was worth $29 prior to this rumour, paying out a $4/share special dividend of the $3.2 billion Telesat proceeds is money that shareholders already “have” once it closes, it just isn’t in their hands as of yet. Rothman’s spays out special dividends all the time and the stock drops almost the precise amount of the dividend once it gets paid out. Management at John Labatt Ltd., for example, tried to use special dividends to improve their corporate structure…but the end result was the same (an LBO bid). Oh, and special dividends generally undercut the value of management stock options (see below);

– BCE renewed their normal course issuer bid in February, which would see $1.2 billion spent to buy back up to 5% of outstanding shares. So that arrow has already been used. While good for shareholders and management options as it reduces the number of shares outstanding (and therefore should increase the value of the remaining shares, provided the EPS multiple remains static), it doesn’t compete with a takeover premium;

– the federal government’s recent announcement regarding the deregulation of local telephone service cuts both ways, potentially, but it doesn’t appear to have undercut the stability of BCE’s cash flows — which are required to support the $24 billion in debt that might be needed to fund a $40 bid;

– other shareholders are now rallying to the flag, in essence giving BCE management the message that “the party is over”; as one shareholder was quoted in The Globe and Mail this morning: “Who’s not going to tender to a $40 bid? I’m going to,” promised one of BCE’s top shareholders. “Every shareholder will be tendering. If [Mr. Sabia] resigns, that’s the only way around this.”

While one can imagine that the last quote made its way into the story as it fit the bill, it likely reflects the general sentiment that a $40 offer is preferred over the go-it-alone strategy. As the shares turn over, and make their way into the hands of arbitrage funds, whatever resistence management can muster will be ineffective against that tide.

Hats off to the journos at the Globe for pursuing this story with such gusto. They must know that a takeover of BCE will delay the IPO of Bell GlobeMedia, which would have freed them from their corporate shackles. Or, will these stories actually accelerate the IPO of their own newspaper as Mr. Sabia will now need to accelerate its announcement to throw the shareholders a bone, along with a $4 special dividend?

Regardless, the clock is ticking on BCE’s takeover.

UPDATE: April 11th, 3:30 pm. Having written this post I’ve now convinced myself and bought the stock.

MRM