Is Elliott’s Offer to Compuware An Arbitrage Opportunity?

After the stock’s reaction to the deal, Compuware trades at 33 times trailing earnings, meaning that the company would need to drastically improve its operations under Elliott’s management. The EV/EBITDA multiple- which may be more relevant to a strategic acquirer paying for cash flow- is 15x. As with earnings, that is a high multiple. With revenue and earnings declining at double-digit rates last quarter versus a year earlier, the stock is certainly not a good value as a stand alone company, and we think it’s quite speculative to buy expecting a higher acquisition price.

We looked at four peers- BMC Software, Inc. (NASDAQ:BMC), CA, Inc. (NASDAQ:CA), International Business Machines Corp. (NYSE:IBM), and Oracle Corporation (NASDAQ:ORCL)– and noted that the highest EV/EBITDA multiple among these companies was 10x. Obviously IBM and Oracle wouldn’t be acquisition targets, and the other two companies have larger market caps than Compuware as well, but they still demonstrate that the cash flow from buying Compuware might be more expensive than acquisitions elsewhere in the industry- keep in mind that an acquirer would need to beat the 15x Elliott is offering- and might also be more expensive than investing in organic growth. As stocks, the trailing P/E multiples range from 11 (at CA) to 20 (at BMC) with forward P/Es of 12 or lower. Certainly these companies are better values than Compuware, and the degree of difference would lead us to advise against speculating that more buyers for the company will emerge.

That leaves the buy case to be the expectation that Elliott will close the deal, and deliver the modest unlevered return we’ve discussed. Of course, investors who are interested in Compuware as a merger arbitrage play should know that closing the deal isn’t certain, and our discussion- and the stock’s rise since Elliott’s offer- suggests that any bad news for the deal will cause the stock price to decline.