Does the CIA Know About This?

Time for another edition of the ever-popular Deal Lab.  Today's deal has been bugging me since last week, so I thought I just better get it out of my system.  Similar to my post on Google's last acquisition, I thought for sure someone in the mainstream financial media or blogosphere would write about the structural issues with WebSideStory's (NASDAQ: WSSI) acquisition of Visual Sciences (or ViSci as the kids call it) for $57.3 million in cash, debt and stock.  But alas no one did.  As usual in the Deal Lab, I will only write about the structure of the transaction and not it's merits, or lack there of.

(Note to WSSI shareholders: the consideration was under-stated by at least $7.3 million, as the value of an in-the-money warrant to purchase over one million shares and newly issued stock options weren't included.)

The transaction was closed and announced after-market last Wednesday, the same day WSSI disclosed its financial results for 2005.  In fact, the two news items shared the same press release.  Therein lies the first problem for the ViSci.  WSSI missed its Q4 guidance and put out lower numbers than the street expected for 2006, thus the stock has been off almost 25% since.  Had the deal been all cash, no problem, but remember this thing is part stock.  If ViSci didn't build any price protection provisions into its merger agreement, then they just lightened the deal by $6.5 million or 11% due to extremely bad timing.  In addition, WSSI was kind enough to allocate a pool of options to ViSci's employees - oops, they're under water now, but welcome to the company anyway!

This mistake could have easily been avoided.  If you're taking public stock as consideration, pick your close date instead of just letting the acquirer choose it.  Check the buyer's earnings calendar, and ask hard questions about upcoming or planned announcements.  If you are getting public stock, hedge it immediately after the deal.  In many cases shorting the acquirer's stock or purchasing put options is a lot easier than trying to get price protection agreements.

The second structural problem I have is the unsecured $20 million note at 4% that ViSci's shareholders took back.  Since WSSI has no other debt, there was no reason for the note to be unsecured.  Especially since 27% of the total consideration was equity that's either restricted, in escrow or in a convertible form that's now out of the money.  ViSci's shareholders are now the largest creditor to a company with $20.8 million in tangible assets and $38.2 million in liabilities.  And why take 4%?  The leveraged loan market is at LIBOR + 300-400 bps, or 8%-9%, for a company like WSSI.  And even 2-year U.S. T-Notes are yielding 4.375%.

Who was the VC on this deal anyway (hint: your Federal tax dollars at work)?

Comments

[Lorne Groe]

Well, Daniel makes a good point that acquirers often try to ban short sales by sellers after the deal closes. The problem is that if you don't let sellers hedge, you've put yourself in the position of having to give price protection. Or worse yet, the acquirer puts itself in position for litigation by restricting hedging activity if the stock price then falls. I've seen this outcome a number of times. The best bet for both sides is an upfront conversation about expectations and understanding the ability to and impact of hedging.

[Daniel]

I would try to restrict hedging activity against my public stock as an acquirer if there are big blocks that will need to be hedged. If I couldn't totally restrict it, I would try to attach some conditions to the hedge.