Many of the successful stocks that we’ve come across or written about over the last few years were ideas that were presented to us by premium members and investors that follow Geo. Today, we have one of those opportunities to tell you about. We encourage anyone with ideas to reach out and contact us; we like to start discussions on ideas and help investors move ideas forward.
A GeoInvesting contributor has alerted us to an arbitrage opportunity for a merger that is likely to close in early December, following a shareholder vote on December 2, 2015, at a price that is 20% to 40% more than the stock’s recent trading price.
On June 4, 2015, DARA BioSciences, Inc. (DARA), an oncology supportive care specialty pharmaceutical company dedicated to providing healthcare professionals a synergistic portfolio of medicines to help cancer patients adhere to their therapy and manage side effects arising from their cancer treatments, announced that it signed a Merger Agreement with Midatech Pharma PLC (MTPH.L), an international specialty pharmaceutical company located in Oxford, UK with a diversified portfolio of high-value products in development.
The Details
The proposed acquisition agreement with Midatech calls for each share of DARA to be converted into the right to receive (i) 0.272 Ordinary Shares of Midatech, subject to certain adjustments, and (ii) one Contingent Value Right ("CVR"). All Midatech Ordinary Shares will be delivered to the holders of DARA Common Stock in the form of American Depositary Receipts ("ADRs"). Based on the price of Midatech at the time of the announcement, each DARA share will be converted into ADRs with a value equivalent to approximately $1.20 per DARA share. The ADRs will be listed on NASDAQ. Based on the recent price of MTPH.L, the value of the ADRs to be distributed to DARA shareholders would be around $1.13 which is 25% over DARA’s recent price of $0.85. The final value of the ADRs to be received by DARA shareholders will fluctuate with the market price of Midatech’s shares and is subject to a floor price of $1.08.
The Form F-4 for the proposed merger and amendments have been filed with SEC and it appears the only contingency is the approval of DARA’s shareholders on a vote to be taken on December 2, 2015.
Arbitrage Opportunity
Given that the DARA and Midatech transaction appears to be a done deal, a minimal initial return of 25% in less than four weeks looks attractive. We have identified several factors that might explain the spread between DARA’s current market price and the likely value of the ADRs shareholders will receive shortly after the December 2 vote. In our view, the following factors explain the short term arbitrage opportunity in DARA’s shares:
- There is virtually no institutional ownership of DARA’s shares. DARA is a little followed penny stock held primarily by retail investors.
- Investor skepticism. DARA has a checkered history. Management has changed strategies and disappointed investors several times in the past. The company was originally focused on R&D and is now commercially marketing its drugs.
- There were a number of legal challenges to the value of the Midatech transaction launched by law firms shortly following the announced merger asserting the value was unfair to DARA’s shareholders and DARA’s board failed to shop the company for the best price. Management and directors only own 4.6% of the common stock.
- Many investors might have decided to sell and move on rather than wait for the transaction to close. Since it’s a penny stock, many retail investors are probably not focused on the 25% difference between DARA’s recent trading price and the $1.08 floor price.
Caveat: We have no way of knowing how the ADRs will trade after the transaction closes. The arbitrage spread between the value of Midatech’s shares in the UK and the ADRs could persist. MTPH.L recently had a market cap of only $75 million and an average trading volume of 14,421 in the last three months.
