The Hedge Fund Law Report

The definitive source of actionable intelligence on hedge fund law and regulation

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By Topic: Merger Arbitrage

  • From Vol. 3 No.18 (May 7, 2010)

    Delaware Supreme Court Endorses Third-Party Vote Buying in an Opinion with Important Implications for Activist and Merger Arbitrage Hedge Fund Strategies

    On April 21, 2010, the Delaware Supreme Court issued an opinion approving the practice of third-party vote buying where economic and voting rights are transferred together, even if bare legal title remains with the seller.  See Crown EMAK Partners, LLC v. Kurz, -- A.2d --, 2010 WL 1610487 (Del. Supr. Apr. 21, 2010).  Although the court found that the specific transaction at issue violated the terms of a Restricted Stock Grant Agreement, and the court thus disallowed voting of the purchased shares, the court’s approval of the vote buying transaction, and its emphasis on the importance of maintaining the link between economic and voting rights, may have important implications for hedge funds pursuing activist or merger arbitrage strategies.  In particular, the case may further erode the utility of total return equity swaps as a tool for activists and arbitrageurs; as we have reported in previous issues of The Hedge Fund Law Report, the range of circumstances in which total return equity swaps may be used as an effective and tax efficient tool has been narrowed by court cases, IRS action, congressional action and rulemaking by the U.K. FSA.  See “District Court Holds that Long Party to Total Return Equity Swap May be Deemed to have Beneficial Ownership of Hedge Shares Held by Swap Counterparty,” The Hedge Fund Law Report, Vol. 1, No. 14 (Jun. 19, 2008); “SEC’s Order in the Perry Case Effectively Creates a Presumption that Beneficial Ownership Acquired as Part of an Activist or Merger Arbitrage Strategy Is Not ‘In the Ordinary Course,’ and thus May Require the Filing of a Schedule 13D,” The Hedge Fund Law Report, Vol. 2, No. 30 (Jul. 29, 2009); “IRS Directive and HIRE Act Undermine Tax Benefits of Total Return Equity Swaps for Offshore Hedge Funds,” The Hedge Fund Law Report, Vol. 3, No. 12 (Mar. 25, 2010); “FSA Publishes Revised Disclosure Rules for Contracts for Difference,” The Hedge Fund Law Report, Vol. 2, No. 12 (Mar. 25, 2009).  To illustrate the implications of the EMAK case for hedge funds, this article discusses: the relevant factual background of the case; the Delaware Court of Chancery decision; the Delaware Supreme Court decision and opinion; and the way the case may affect hedge funds in four specific circumstances: (1) third-party vote buying; (2) the purchase of voting rights without economic interests, for example, in connection with a merger arbitrage strategy; (3) the purchase of economic interests without voting rights, for example, in connection with an activist strategy; and (4) international coordination of activist campaigns.  In connection with the discussion of merger arbitrage, this article reviews the June 2009 settlement between Perry Corp. and the SEC relating to trading by a Perry fund in shares of Mylan Laboratories Inc. and swaps referencing the shares.  And in connection with the discussion of activism, this article refers back to the June 2008 decision of the U.S. District Court for the Southern District of New York in the case in which railroad operator CSX Corporation sued hedge fund managers The Children’s Investment Fund Management (UK) LLP and 3G Capital Partners Ltd. alleging violations of Section 13(d) of the Securities Exchange Act of 1934.

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  • From Vol. 2 No.17 (Apr. 30, 2009)

    Does Regulatory Certainty Decrease Profits from Merger Arbitrage?

    On March 5, 2009, Xinyu Ji and Gaurav Jetley completed a study titled “The Shrinking Merger Arbitrage Spread: Reasons and Implications.”  The study defines merger arbitrage as “an investment strategy that involves buying shares of a firm that is being acquired . . . and in the case of a merger that involves payment in shares, also shorting the shares of the acquiring firm.”  Gaurav Jetley is a Vice President at Analysis Group, Inc., and Xinyu Ji is an Associate there.  (However, the study reflects the analyses and findings of Mr. Jetley and Mr. Ji, and does not necessarily reflect the perspectives or conclusions of Analysis Group.)  Ji and Jetley compiled data indicating that there has been a long-term reduction in profits from merger arbitrage.  However, market participants interviewed by The Hedge Fund Law Report suggested the regulatory uncertainty with respect to merger approval may be on the upswing, which may increase the returns to merger arbitrage strategies.  We discuss these competing views, and highlight an underappreciated niche in which the prospect for returns to a merger arbitrage strategy may be brightest.

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