From the WSJ (http://interactive.wsj.com/articles/SB959028112911492354.htm)
Investors Give Terra, Lycos
Negative Response on Deal
By STEVEN LIPIN and JOHN HECHINGER
Staff Reporters of THE WALL STREET JOURNAL
With the shares of both Terra Networks SA and Lycos Inc. in the dumps, the evidence is growing that this is a take-no-prisoners stock market, or more precisely, a take-no-Internet-deals market.
The negative reaction among investors to the proposed merger, creating a gaping differential between the face value of the deal and Lycos's current stock price, comes despite attempts by Wall Street deal makers to deftly craft the cross-border merger of the Internet portals.
The deal makers thought they were taking into account an expected fall in Terra's highflying stock. For instance, Lycos shareholders had the protection of a "collar," a way to protect shareholders through an offer of additional shares if Terra's stock moved strongly one way or the other (which they now have). From a tactical standpoint, "they did all the right things," one banker said.
But instead, the roughly $12 billion Terra-Lycos deal is the latest in a series of Internet combinations that have received a thumbs down by the stock market, despite generally favorable reviews by Wall Street analysts.
Monday, the rout continued in the shares of Lycos, as they tumbled another 7.5%, or $4.375, to $53.75 in 4 p.m. Nasdaq Stock Market trading. Shares of Terra, whose parent is Spain's Telefonica SA, changed hands on Nasdaq at $45.25, up $1, slightly below the collar that was specifically aimed at protecting Lycos shareholders.
This week, Bob Davis, chief executive of Lycos, and Juan Villalonga, Telefonica's chairman, are courting U.S. investors at institutions-only roadshows. Mr. Davis said in an interview in response to the stock moves: "I think it's an opportunity for people to make an awful lot of money when the market begins to realize this deal is solid."
While a decline in Terra's stock was expected, the recent decline in Lycos's shares has the deal team nervous, say people close to the situation. Lycos's stock is so low it is implying either that the stock market doesn't believe the deal will be completed, or that Terra's stock is overvalued and will come under more pressure.
"Implicit in Lycos's stock is either Terra will trade at $26 or $27, or it's saying the deal won't happen," said one investment banker who has followed it closely.
Vignette to Buy OnDisplay for $1.28 Billion in Stock
Terra Networks Agrees to Buy Lycos in $12.5 Billion Trans-Atlantic Deal (May 17)
Numerous technology-related deals have gotten panned by a market skittish about deals in general, as investors have been focusing on whether acquirers are using inflated stock to acquire real companies. Just Monday, shares of Vignette Corp. and OnDisplay Inc. fell after Vignette said it would acquire OnDisplay.
And of course, it has been a treacherous stock market, especially for Nasdaq-related stocks. Indeed, shares of Lycos, which is based in Waltham, Mass., have actually performed better than plenty of other Internet stocks.
In the deal world, America Online Inc. continues to trade well below its value before announcing its merger with Time Warner Inc. And IMS Health Inc. was forced to scrap its merger with e-health upstart TriZetto Group Inc. because of violent stock-market reaction.
But those two deals were "cross-over deals" involving a traditional company and an Internet company. Terra-Lycos was supposed to be different because they were both Internet plays.
By most accounts, it should have gone better. For one, at a time when investors are increasingly scrutinizing "burn rates," or the rates at which Internet companies burn through capital, Lycos and Terra will start corporate life with billions in cash on its books.
In a move designed to provide cash and put a floor on Terra's stock, the parent Telefonica agreed to an unusual condition asked for by the Lycos side. Telefonica agreed to invest $2 billion of cash in the Terra-Lycos combination at a price of $56.13 a share. And the new company will have additional cash coming from its partner at Bertelsmann AG.
Another condition Lycos demanded was the collar. Most technology mergers and acquisitions don't include such collars. And the collar is very wide -- up or down 20% from where the deal was struck. Now, Terra's stock is below the 20% band that the two sides agreed to.
Below a Terra stock price of $45.38 a share, shareholders of Lycos will receive a fixed ratio of 2.15 shares of Terra for each Lycos share. Based on Monday's Terra stock price, the deal has an implied value of $97.28 a share.
So either Lycos stock is a screaming buy, or the stock market believes Terra's stock has more to fall. Of course, the Lycos camp believes the former rather than the latter. Summed up one person in the Lycos camp: "The market is irrational." Terra declined to comment.
Lycos's Mr. Davis noted that the combined new company will have a presence in 37 countries, a $3 billion cash position and a business growing at 80% annually.
One problem for takeover traders, or arbitrageurs, is that to buy Lycos, they would typically sell short the stock of Terra. But because only a small percentage of Terra's stock trades publicly, there isn't enough stock for Wall Street to trade. That diminishes the upside pressure from takeover traders.
Lanny Baker, an analyst at Salomon Smith Barney in San Francisco, said many investors had favored Lycos because its valuation was cheaper than Internet industry leaders, such as Web portal Yahoo! Inc. Now, Lycos shares have run up, and Mr. Baker said many investors worry that Terra is too expensive In fact, Mr. Baker, reflecting the current mood, still isn't recommending Lycos shares even though he figures that Lycos shareholders could still reap a 25% profit in several months if Terra shares were to fall by a third from their current levels.
"What's the rush?" he asks, adding that he expects Lycos could well drop more because of the uncertainty of a cross-border, Internet deal.
Frederick Moran, head of Internet research at securities firm Jefferies & Co., said Terra now trades at roughly 80 times its expected 2000 revenue, a premium even to industry gold standard Yahoo. Combined with Lycos, the company looks more reasonable -- at 60 times 2000 revenue. But, even then, it is rich compared with, say, a combined America Online and Time Warner, at 16 times 2000 revenue.
Even though Mr. Moran doesn't currently recommend the stock, he says shareholders could receive "huge potential rewards" for waiting out the deal. He figures the current upside is about 80% if the deal goes through. What's more, he doesn't believe Lycos shares would fall too much lower if the deal falls apart. If the market for Internet stocks recovers, he says, "The risk reward situation starts to lean back in your favor."
Henry Blodget, the well-known Internet analyst with Merrill Lynch, says Lycos may also be weak because many of the mutual-fund managers who bought shares have charters that keep them from owning foreign stocks. Mr. Blodget, whose company has suspended its rating on Lycos because of the deal, says he can't make recommendations to investors. But he calls the spreads between Lycos and the Terra deal's potential value "eye-openingly wide."
The deal team for the proposed merger included Lazard Freres & Co. and law firm Wachtell, Lipton, Rosen & Katz for Terra, while Lycos used Credit Suisse Group's Credit Suisse First Boston and law firm Cravath, Swaine & Moore.
Write to Steven Lipin at steve.lipin@wsj.com and John Hechinger at john.hechinger@wsj.com |
