With the stock up 20% on the news and trading well above the offer price, what should shareholders do now? Sell the stock at around $28 or wait for a higher offer from PAA or another party?
Let's start with some background. SemGroup emerged from bankruptcy, which was caused by the trading activities of the previous management team, in November 2010 with a post-bankruptcy equity value set at $25.00 per share. Although, SemGroup's assets are suited for an MLP structure, SemGroup is structured as a corporation.
Since emerging from bankruptcy, SemGroup has tried to reorganize its structure and its assets. In June 2011, SemGroup announced that it was planning to create and IPO a subsidiary MLP, Rose Rock, which would contain most of the assets of its SemCrude division, including crude oil storage terminals in Cushing, Oklahoma; a gathering and transportation system in Kansas and Oklahoma; Bakken Shale operations and a Platteville, Colorado crude oil unloading facility. Then, in August 2011, SemGroup announced that it was selling its SemStream business to NGL Energy Partners LP (NYSE: NGL) in exchange for approximately one third of the common units of NGL, a 7.5% interest in NGL's GP and cash.
Following these two transactions, SemGroup would essentially become a holding company with holdings in two MLPs as well as assorted other assets.
PAA came into the picture on October 6, when it offered to acquire all of SemGroup for $24.00 per share in cash, which was promptly rejected by the board of directors. Later, PAA disclosed that it had made an offer to acquire SemGroup once before. In March 2010, PAA offered $17.00 per share in cash for the company.
It is clear from all of this that there is strategic interest in SemGroup. PAA has had its sights set on SemGroup for a year-and-a-half and NGL is interested in a large part of the business. The question remains will a bidding war begin for SemGroup, which could push the stock price up further?
While PAA seems interested in the business, it seems hesitant to pay up for it. The $17.00 per share bid in March 2010, was well below the $25.00 per share value that emerged in the plan of reorganization. PAA's current $24.00 per share offer "represents a premium of approximately 16% to SemGroup's 10-day average closing price through October 5, 2011, the day immediately prior to PAA's proposal, and a premium of approximately 20% over the 10-day average closing price immediately prior to SemGroup's August 31, 2011 announcement of its pending asset sale to NGL" (PAA's press release). Still, it was only slightly above the $23.56 share price the day before PAA issued its press release about the bid. With the stock at that level, SemGroup could not reasonably accept that bid.
Although PAA went public with its intention to acquire SemGroup, it has not yet issued a higher bid. The press release left the door open for a higher bid in the future, as PAA says:
As a result, we believe you and the SemGroup Board should reconsider our proposal. As we indicated in our previous letter and our discussions with you, we based our proposed value upon public information, and we will consider increasing our proposal if we have full access to SemGroup's non-competitive information and are able to identify additional opportunities to create value. As we also indicated, if preferred by your stockholders, we would consider alternative forms of consideration, including PAA common units... We are committed to completing a transaction with SemGroup. Given the liquidity and substantial value represented by our proposal, we are confident that a substantial majority of SemGroup's stockholders will support our proposal. We have taken the step of making this letter public to explain directly to your stockholders our proposal, our actions and our commitment. Your refusal to engage with us will only further delay the ability of your stockholders to realize liquidity and receive the substantial value represented by our all-cash proposal. In order to move forward quickly, we have retained Evercore Partners as our financial advisor and Vinson & Elkins and Morris Nichols as our legal advisors, and they, alongside our senior management, have already completed extensive analysis and due diligence based on publicly available information. We could complete our confirmatory due diligence, finalize the terms of a transaction and make the appropriate regulatory filings very quickly.
By contrast, SemGroup says in a press release:
The quick rejection of the PAA offer, which SemGroup calls "opportunistic," seems to have brushed off PAA. While PAA still wants to acquire SemGroup, it wants SemGroup's shareholders to encourage the board to pursue a deal before it puts forward another offer. SemGroup's attack on PAA as being "opportunistic" seems warranted.
Furthermore, SemGroup adopted a poison pill on October 28, 2011 to prevent PAA from making a hostile bid for the company. This move limits PAA's ability to execute the deal without increasing its bid significantly.
Furthermore, SemGroup adopted a poison pill on October 28, 2011 to prevent PAA from making a hostile bid for the company. This move limits PAA's ability to execute the deal without increasing its bid significantly.
With SemGroup's stock in the $28 range, 17% above PAA's last offer, the market is already pricing in a higher offer from PAA, which PAA isn't yet ready to put on the table since it feels that the board would not pursue it without shareholder pressure. (NGL, with a $320 million market cap, is not in a position to make an offer for SemGroup.)
PAA's recent actions leave the door open for a higher bid, but also do not necessarily indicate that one is forthcoming. Let's look at what PAA can pay for SemGroup:
While SemGroup still seems undervalued at the current price of $28.30, the risk/reward profile has changed. In the near term, the stock price will be influenced by the PAA offer, should PAA continue to pursue a deal. In such a scenario, PAA may raise its bid to the $32.50 range, which would result in approximately $4 per share of upside.
However, if PAA does not pursue a higher offer, more difficult now with the poison pill in place, SemGroup's stock could fall back to the $24 range where it was trading before the PAA announcement, resulting in approximately $4 per share of downside.
While other factors may emerge in the short term that could positively or negatively impact the stock price, such as a bid from another party, the Rose Rock IPO or completion of the NGL transaction, there seems to be balance of upside and downside potential for the stock.
I decided to sell my holding in SemGroup a bit under $28. While I originally thought SemGroup's stock would rise higher, I felt that the 20% increase in the stock price due to the PAA offer created a good opportunity to sell. I may have sold too early and a bidding war may emerge for SemGroup, but I am happy to take my profits and deploy the capital elsewhere with less near term event risk.
Furthermore, I was disappointed with SemGroup's strategic plan, even before the offer. Although SemGroup's assets were undervalued, especially in the low $20s, the plan to transform SemGroup into a holding company with significant positions in two MLPs seemed strange. There is a risk that SemGroup would trade at a discount to its holdings in the two MLPs and it may be more attractive to hold each MLP separately (or deploy the capital elsewhere). I decided not to sell my position in the low $20s because of the upside I believed existed in the assets, but with a sharp increase in the stock price and new dynamics, I am pleased to move on.
If SemGroup's stock falls, I may re-establish my position. Also, I am long Blueknight Energy Partners L.P. (NASDAQ: BKEP), the former subsidiary of SemGroup's predecessor company that has some similar assets as SemGroup. I am considering increasing my stake in Blueknight with the proceeds from the sale of the SemGroup position.
DISCLOSURE: I AM LONG SEMG AND BKEP.
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