Rushed to the altar?
Last month, health care giant Humana (HUM) announced plans to acquire the much smaller KMG America (KMA) for $6.20 a share. While KMA stock rose sharply when the deal was announced on Sept. 10, there was an interesting tidbit in the preliminary merger proxy that KMG filed late yesterday that makes me wonder whether KMG investors are really getting such a great deal.
That’s because yesterday’s filing revealed for the first time that KMG was dealing with an SEC comment letter — a letter which the filing notes was provided to Humana on Aug. 21 — about three weeks before the deal was announced. Yesterday’s filing also notes that a condition of the merger was the “satisfactory resolution of the comments in the SEC comment letter.”
While the comment letter doesn’t appear to be publicly available, at least not yet, the filing notes that it had to do with the company’s 2006 10-K and that the SEC completed its review on Sept. 6. The next day, Humana’s management approved the deal. But given where KMG was trading earlier this year — close to $10 in mid-March — you have to wonder whether the mere presence of the comment letter pushed KMG to rush to the altar a bit too prematurely.
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October 3rd, 2007 at 12:46 pm
I remember passing on KMG America as a long candidate early in 2007. The 2006 purchase GAAP adjustments looked odd, and declining Statutory profitability was a concern. Can’t remember any more, because those workpapers are with my former employer. Also, almost every company disproportionately involved in long-term care insurance has had trouble, even Genworth. I don’t think that long term care is an underwritable contingency. The insured knows much more about his personal situation than the insurer, thus antiselection is high.
October 3rd, 2007 at 1:17 pm
Sounds like the KMG executives and Board must have thought that they had some serious exposure with the SEC. It will be interesting to see how it all plays out, though from the looks of it, Humana appears to be holding all the cards. Of course this also assumes that the numbers they looked at in their due diligence were accurate and verifiable. I also wonder how many different definitions of “satisfactory resolution” one could come up with. I suppose it all depends on which side of the table you are sitting on.
October 3rd, 2007 at 5:21 pm
I don’t quite follow the logic. The deal was apparently conditional on resolution. So, the valuation et al assumed resolution. Under a bust (no resolution) scenario, KMG’s rushing to alter is moot; the deal wouldn’t go. If it resolves, the sale is into conditions that contemplated resolution. In other words, selling at a discount into a deal that isn’t conditional would indeed be rushing into a “hedge,” but selling into a conditional deal means both parties contemplate (plan for) resolution.
In my opinion, here is the best indicator lacking specific filing information: on the timeline from first contact, when did KMG first *tell* them verbally - the earlier they did that, the more serious you can infer the contents, if later down the line, probably not serious
October 4th, 2007 at 7:43 am
If you look at the “background of the merger” section it seems to me that the deal was proceeding concurrent with the comment letter, even though KMG didn’t disclose that to Humana until the end of the process. Of course, we may never know, even if the comment letter becomes available. But given where the stock was earlier this year, it’s hard to believe that the existence of the comment letter didn’t come into the negotiation process.
October 4th, 2007 at 5:13 pm
I was thinking from a valuation standpoint, the “conditional on” takes the SEC letter off the table. The buyer cannot use it to extract concessions, as the terms are negotiated against a clear company.
But i get your drift, if the SEC letter puts a cloud over the company and augurs other related future risks, then seller is jumpy. Okay, that might warrant a trip to the tip jar…
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