Despite spread, Aladdin on track
by Scott Stuart
Updated 06:13 PM EST, Feb-26-2009
thedeal.com
Aladdin Knowledge Systems Inc. shares have traded off considerably this week, but its merger with Vector Capital appears on track to close in late March.
Vector is buying Aladdin for $11.50 per share in cash, or $160 million, to marry the digital security company with Vector portfolio company SafeNet Inc., which it acquired in 2007.
The deal is subject to approval by the German Federal Cartel Office and the Israeli Commissioner of Restrictive Trade Practices. The GFCO initial review period expires 30 days after notification, which was made Feb. 13. The Israeli antitrust review also terminates if objections are not raised within 30 days. Both of those waiting periods will expire in mid-March. Under Israeli securities regulation, the deal cannot close until 30 days after shareholder approval, which was Feb. 20, so the closing should fall around the weekend of March 21.
Aladdin shares traded Thursday, Feb. 26, at $9.70 at a spread of $1.80, or 18%, to their value in the deal. Assuming a March 23 deal close, the spread offered an annualized return of 270%.
One problem for the spread this week was a data error by Bloomberg that suggested Vector was selling down its Aladdin stake. Vector owns about 1.9 million shares, or 14%, of Aladdin. But the merger includes a voting agreement and on Jan. 13 Vector filed a 13D reflecting that voting control and a combined holding of 4.7 million shares, or 34%. Bloomberg's data reflected that Vector owned 4.7 million shares until Feb. 23, when, following a New York Stock Exchange update, Bloomberg changed the Vector holding back to 1.9 million. Some arbs initially thought Vector was dumping the stock and sold.
Vector has not sold any Aladdin shares.
But the spread has also traded wider due to deal risks.
The merger is conditioned on Aladdin having $7 million in cash and $13.5 million in working capital at the time of the merger close. The deal was announced Jan. 12, and as of that time it appears Vector had Aladdin's fourth-quarter results. Some arbs think Aladdin had $10 million of cash on its books Dec. 31. The working capital requirement is defined in the merger agreement as current assets minus cash and current liabilities, with some add-backs such as transaction expenses. Without any add-backs, Aladdin had working capital of $13.47 million on Sept. 30.
The real question is whether Aladdin will meet those conditions in late March. Aladdin expects it will. A Vector spokeswoman said the firm absolutely expects those conditions will be met.
Vector set the capital requirement levels knowing Aladdin's fourth-quarter results and set them for levels in the event of a catastrophe, a source familiar with the matter said. The working capital level was set such that Aladdin would meet it short of a substantial failure during the quarter, the source said. Vector is committed to the merger, and its strategic underpinning is unchanged, the source said. The deal provides it an opportunity to combine SafeNet and Aladdin to provide a needed broader product range, he said.
Aladdin has indicated that the quarter has been tough and contracts difficult to land, an arb said. But it said it will meet the thresholds, he added. Aladdin also acquired SafeWord, a company with $30 million in revenues, in September, the arb said. That deal is not reflected in the third-quarter numbers, which were already at the working capital threshold, and should add to working capital in later quarters, he said.
Some arbs might also be concerned about the possibility of exposure to Israeli taxes, Jonathan Van Orden, a managing director at Dominick & Dominick LLC, said. But U.S. holders can file a tax declaration form stating they are not Israeli residents, which can eliminate that risk, he said. Arbs are also worried that, although the deal does not require an antitrust filing in the U.S. because it falls under an asset size threshold, U.S. regulators might decide to look at it anyway, Van Orden said.
Aladdin primarily provides products in the hardware-based software licensing authentication token market, or Slat, which is the largest segment of the software DRM market. SafeNet competes with Aladdin in its embedded security division through its Sentinel-brand DRM products. The companies could be considered to have a large market share depending on how the market is viewed.
The players in the DRM market have geographic strengths, a source said. Aladdin is strong in Germany, while SafeNet is strong in the U.K., he said. There are a number of small competitors, and Microvision Inc. competes on every SafeNet contract, he said.
The merger agreement contains some provision regarding the antitrust review process. Vector agreed to divest businesses to get the required antitrust approvals, so long as any divestiture or termination of contracts or relationships would not be material. The agreement does not set a threshold for what would be material. Vector must pay a $10 million reverse termination fee if it does not get the deal cleared by a May 7 termination date.
The merger is not conditioned on financing and has a $130 million equity commitment. |
