The following is an excerpt from a report compiled by Michael Pachter of Wedbush Securities.
After the market close on Wednesday, Activision Blizzard (NASDAQ:ATVI) announced that the Delaware Chancery Court issued a preliminary injunction blocking the closing of the previously announced transactions between Vivendi, Activision Blizzard and ASAC II LP, unless the injunction is modified on appeal or the transaction is approved by a stockholder vote of the non-Vivendi Activision shareholders. On September 11, a shareholder of Activision Blizzard filed a class action lawsuit, Hayes v. Activision Blizzard, Inc., for failing to submit the transactions for stockholder approval. The complaint claims that Vivendi and the Activision Board of Directors breached their fiduciary duties by allowing for the private transaction with ASAC, unjustly enriching Activision’s CEO, Co-Chairman and other investors involved in the private sale.
Activision Blizzard stated that it remains committed to the share buyback from parent Vivendi and the new capital structure. Under the proposed transaction, Activision will borrow $4.75 billion, use $4.6 billion of the borrowed amount (net of fees and upfront interest) and $1.2 billion of domestic cash on hand to repurchase roughly 429 million shares from Vivendi for approximately $5.83 billion in cash at a price of $13.60/share.
In a simultaneous transaction, ASAC II LP (“ASAC”), an investor group led by Activision CEO Bobby Kotick and Board Co-Chairman Brian Kelly, would purchase an additional roughly 172 million shares from Vivendi, also at $13.60/share. Both transactions were expected to close by the end of September. Davis Selected Advisers and Fidelity are investors in ASAC, according to the 8-K. The transactions would reduce Vivendi’s stake to 12 percent from 61 percent. ASAC’s stake will be 24.9 percent, with public shareholders owning roughly 63 percent of shares.
In our view, the injunction may withstand scrutiny relative to the Vivendi sale to Activision. We believe that any Activision shareholder will likely be granted standing to bring a suit regarding the borrowing by Activision and the repurchase of its shares from majority shareholder Vivendi. We think that the court’s ruling that shareholder approval will ultimately be required for the transaction is reasonable, particularly given that statutory and case law consistently provides that non-pro rata redemptions of majority shareholders are generally prohibited unless all shareholders are offered similar terms.
Given that the sale of shares by Vivendi to Activision is at a discount to the closing price immediately before the transaction, and is at a substantial discount to the closing price yesterday, we think it is highly likely that few shareholders will object to the repurchase by Activision. As a practical matter, the equitable remedy would be for the complaining shareholders to tender their shares to Activision at a discount, but given that the market for dissenting shareholder stock has consistently been above the proposed repurchase price, it would not make economic sense for any dissenting shareholders to do so.
However, we think that the injunction is unlikely to be upheld with regard to the ASAC transaction. In our view, Activision shareholders are not harmed in any way by ASAC’s purchase of Vivendi’s property. While it is argued that the dissenting shareholders should have been given an opportunity to purchase stock from Vivendi at a discount, the offending party is Vivendi, and not Activision. Given that the purchasers are an investment group that is not controlled by Activision, we believe it is a stretch for the dissenting shareholders to argue successfully that the purchase by ASAC somehow breached a fiduciary duty of Activision to its shareholders. We believe that Vivendi shareholders may have some colorable legal argument that the transaction harmed them in some way, but as far as we are aware, there are no Vivendi shareholders involved in the present action. In our view, Activision’s shareholders have no standing to argue that either Vivendi or ASAC breached any fiduciary duty; similarly, we cannot see how either ASAC or Vivendi had any obligation whatsoever to act in the best interests of Activision shareholders.
We expect the ultimate outcome to be a shareholder vote approving the Vivendi sale to Activision, accompanied by a stay of the injunction blocking the sale to ASAC. In our view, Activision shareholders have no standing to challenge the sale of shares by Vivendi to ASAC given that both are unrelated parties and that neither owes a fiduciary duty to Activision shareholders.
Maintaining our OUTPERFORM rating and our price target of $22. We value the shares at a market multiple of roughly 18x our 2014 $1.29/share EPS estimate, less approximately $2 per share in net debt after the Vivendi transaction has closed. The company communicates clearly, executes well, and its management appears to truly understand how to make money.
Michael Pachter is an analyst at Wedbush Securities.