Male: We finished the last video with
the scenario where company A wants
to buy company B,
but they're not going to do it with cash,
they're going to do it with their shares.
They issue a press release saying
that company A intends to acquire company B
for $60 million in A's shares.
They want to give a price that's a premium
to company B's current market cap
so that it's compelling,
so that the shareholders of company B want to do this.
They're like, wow, that's a 20% premium
to our current market cap, so we're willing to do it.
Since this is a share transaction,
company B shareholders won't exactly get $60 million.
What's going to happen is company A's going
to issue 2 million in new shares.
Those 2 million new shares, in theory,
could be worth $30 a share.
Maybe they could sell them in the open market
at $30 a share so that they would be worth $60 million.
Instead of trying to raise the cash
and then giving the cash to company B,
they're just going to take those shares directly
and exchange them for all of the shares of company B,
essentially acquiring the company with all of those shares.
Every shareholder of company B, for every share they have,
they'll get 2 shares of company A.
If at the time of closing, company A's
stock price goes from $30 to $35 a share,
then the transaction price would,
if you think about the market value of those shares
that company B's shareholders are going to get,
the market price would actually be $70 million.
If the market price of company A goes down
to $25 a share, then they're only going to get
$50 million worth of shares.
What I want to think about in this situation
is what should happen to company B's stock
before the transaction closes, if we assume
that everyone thinks the transaction is going to happen?
Let me draw a stock chart here.
This is price.
This is time right over here.
Let me draw company B's stock price first.
Let's say right now it is trading at $50 a share.
That is company B.
Right now company A's trading at $30 a share.
Notice even though that their share price
is lower than company B's share price,
they have a much larger market cap
because they have many, many more shares.
They actually are a larger company
so it doesn't sound crazy for them to acquire company B.
Now, this is the day that everything was announced.
Let's just assume that everyone thinks
the transaction will happen.
For every share of B a B shareholder has,
they will get 2 shares of company A.
If company A does this, what should happen
to company B's stock price if everyone
is 100% sure the transaction's going to happen?
Every share of B is going to be converted
into 2 shares of A.
After this point in time, if you're sure
the transaction's going to happen,
each of these B shares should be worth 2 A shares,
so they should trade exactly at twice
the value of the A shares.
Right when the transaction was announced,
if everyone assumes it's going to occur,
B shares should immediately jump up to $60 a share,
and then they should always trade at double of A's shares.
If they trade at less than double of A's shares,
then, instead of buying A shares, people
would rather buy B shares, or they could buy
half of B shares.
Or let's say there was someone who was going
to buy 2 of A shares, instead they'll say,
"Hey, look, B shares are trading for less than
"2 of A shares, but they're going to be worth
"2 of A shares in the future because of this merger,
"so I'm just going to buy B shares instead."
There's no reason, if everyone assumes
the transaction's happening, that before
the transaction closes that B shouldn't
trade at exactly twice the stock price of A.