Tuesday, November 2, 2010

More on Potential EXCO Takeover

In reading a New York Times article on the potential acquisition of EXCO Resources proposed by its Chairman and CEO, I was struck at the difference in how the public markets and private investors value companies.  The article notes the "rich premium" of 38% being offered for EXCO's stock.  Sure, that's rich compared to last Friday's closing stock price of $14.83., but the 52 week high for the stock is 52% higher than Friday's close.  It begs the eternal stock market question, is EXCO really worth around half of what it was worth ten months ago?

As the clever people say, herein lies the rub.  A private equity investor is going to look at EXCO and value the company based on its long-term prospects.  The private investor looks at the short term issues (commodity prices, natural gas supply/demand, the company's capital structure, its debt maturities, profitability, etc.) but those factors are not the prime drivers of valuation.  You never want to pay too much going in, but is the stock market accurately valuing the company?  The stock market tends to take opposite approach.  Short-term issues drive investor sentiment.  They are the folks driving down the street who are focused on the potholes in front of them rather than where the road is going.

So it makes sense that a private equity investor will take advantage of the disparity and be able to offer such a "rich premium" for the stock.  I would be all over it if I were in their shoes, and I won't be surprised if the premium goes north of 40% if there is push-back from shareholders.  But given the dismal short-term outlook for natural gas, you might not hear a peep (except from the plaintiff lawyers).

I guarantee you that the PE guys are getting a better deal than the current shareholders.  But that's not to say that the board shouldn't accept the offer.  The board's job is to get the shareholders the most value.  Given that the stock market tends to have short-term blinders on, outside of an unexpected rise in gas consumption and price, a buyout is the only way EXCO shareholders are going to see a 30-40% rise in stock price in the next couple of years.

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