[Case by case #5] Moïse Louisy-Louis: using storytelling to understand M&A arbitrage

This case explores the different aspects of merger arbitrage strategies. What are the advantages of this type of investment strategy? What specific risks do they present?

These investment strategies consist - for various investor and trader profiles - in simultaneously buying or selling the shares of companies involved in mergers and acquisitions. Before or after the announcement of such an operation, the aim is to profit from the differential between the price offered for the takeover and that observed on the market. The aim is to assess the probability of the deal being approved and the time it will take.

These strategies can generate excess returns uncorrelated with equity and bond markets. This is particularly attractive when financial markets are depressed. They do, however, carry specific risks, notably that the deal will not go through, which can lead to losses, especially if positions are financed with debt or if some positions are short.

How did this fictional case come about? How did your personal experience as an M&A analyst influence its creation?

Indeed, the story of Maurice Lucas-Lorenzo's training was inspired by my own career as a young analyst, which began some twenty years ago.

Before moving into mergers and acquisitions, I spent 5 years in the investment fund sector as an equity financial analyst in the energy, oil, banking and pharmaceuticals sectors. I then worked as an event-driven analyst at a brokerage firm specialising in special situations such as mergers and acquisitions, asset disposals, etc. in the context of the US stock markets. With a team of traders and sales people, I advised institutional and private clients on merger arbitrage strategies.

As well as understanding the classic challenges of the market, the character of Edmund Stearson, the experienced supervisor, attached great importance to analysing the effects of world events on M&A transactions. Over the past two decades, several international crises have had a significant impact on this type of transaction. I think it would be interesting to share their impact and the experience I have gained from them with students.

In a way, and humbly, I'm trying to put myself in Edmund Stearson's shoes to train my students as well as possible to make mature and structured decisions in the context of markets and political, economic and social environments undergoing major changes.

What is the "private investigator mindset"? Why is it crucial for M&A analysts to adopt this mindset?

This mindset involves examining the reasoning behind each transaction in detail, with curiosity and a keen sense of analysing the situations associated with the events: industrial impact, regulatory risks, shareholder approval, etc. Evaluating arbitrage opportunities in the right way is like investigating a complex deal, because it can potentially be linked to many different sectors, such as economics, technology, the environment, etc.

For M&A analysts, adopting this approach is essential as it enables them to identify and understand the complex nuances of deals, anticipate risks and opportunities, and develop effective trading strategies to navigate volatile markets.

What difficulties do students most frequently encounter in understanding the mechanisms of M&A arbitration?

In general, the biggest challenge for students is to make the link between theoretical knowledge (Corporate Finance, International Accounting and other financial market courses) and the behaviour of market players.

For example, they understand the mechanics of calculating transaction multiples such as "EV/EBITDA", which is equal to the total value of the company divided by EBITDA (2). This multiple compares a company's valuation with its ability to generate cash. However, due to a certain lack of experience, students do not always understand why market players observing two similar listed companies with similar EV/EBITDA multiples can take opposite decisions. The behavioural aspect of decision-making remains difficult to grasp, even for the most seasoned players!

With time, students (and therefore future market players) understand that the analysis of a transaction cannot be limited to a purely quantitative approach, but must also consider qualitative aspects such as the profile of the company directors behind the transaction or the attitude of market and competition regulators.

For teachers and instructors using this case study, I would advise them to take the time to describe how the equity and bond markets work in general, to talk about the players involved (analysts, brokers, investment banks, etc.), to mention the regulations, to reiterate the important principles and to illustrate the return calculations. More generally, I invite them to test the students' ability to grasp complex concepts and situations by summarising the parameters characterising an M&A transaction before launching into complex calculations.

To what extent does storytelling applied to a case study help students to understand key concepts?

Telling a story, naming and describing characters, setting a colourful scene...: this greatly helps future analysts to visualise and contextualise the mechanisms of merger arbitrage. By presenting real or fictional scenarios, I'm convinced that storytelling makes learning more engaging and more concrete. It provides a better understanding of how M&A arbitration concepts apply in real-life situations and strengthens students' ability to analyse and solve complex problems.

References

(1) « Merger Arbitrage: A Private Investigator's Mindset », Case-Reference no. 123-0006-1. https://www.thecasecentre.org/products/view?id=188864

(2) "Earnings Before Interest, Taxes, Depreciation, and Amortisation" is an approximate value of the cash flows generated by the company's operating activities during the year.