Saturday, 20 September 2014
Last updated 23 hours ago
Oct 28 2010 | 12:11am ET
September was been a banner month for Bernheim Dreyfus’ Diva Enhanced Synergy Fund which has returned 27% over the first nine months, topping both the Barclay and Morningstar rankings of equity/arbitrage funds. It probably didn’t hurt that Q3 2010 was the busiest quarter for M&A in two years, with announced transactions worth $563 billion. Sharing the good news with investors, the team behind the Paris-based hedge fund—which has US$100 million in assets under management—promised to remain “totally focused on delivering superior risk-adjusted returns applying an event-driven strategy.”
To find out more about that strategy, FINalternatives senior reporter Mary Campbell spoke with portfolio manager and head of research Lionel Melka.
Could you tell me something about the fund itself?
Well, Diva Synergy is an event-driven hedge fund with a four-year track record managed by a team seated in Paris. We deploy capital basically in two sub-strategies, constructing a market-neutral portfolio of roughly 40 liquid stocks. The first one is classical merger arbitrage. We buy stocks after a bid announcement in order to capture the spread between the bid price and the share price. Usually there’s a discount between the bid price and the share price which reflects the fact that the bid is not certain and has some risk associated with non completion (financing, antitrust, regulatory clearances…) and these risks are remunerated by the spread. So our job is to analyze all bids that are announced and choose the good ones, the ones that go to closing.
Are you open to mergers happening anywhere in the world?
We invest in mergers happening in Europe and in North America. We don’t invest in Asia or emerging markets. In this strategy, the legal aspects of the transactions are critical because you have to understand how a buyer can escape from his obligations and you must be really familiar with the stock market regulations. And, to be frank, we know very well the stock market regulations and corporate law in Europe and North America but it’s hard to invest in situations in emerging markets because in these countries you have very different rules. For instance, the rights of minority shareholders are not as protected as they are in the Western world, and basically there is a lack of transparency in terms of disclosures and reliability of the financial accounts…it’s more opaque.
And what is the second sub-strategy?
We call it “special situations” or “pre-event.” Basically, we are chasing situations of hard catalysts, companies that are future takeover targets we believe could be acquired within the next three to six months.
To what do you attribute the fund’s excellent performance over the last nine months—is it just that there’s a lot of M&A activity at the moment?
Yes, there’s a surge in M&A and we really benefit from this rise in activity because in merger arbitrage, the more deals you have the more choice you have. And as far as the special situations book is concerned, more M&A means more performance catalysts in our portfolio. Our performance is directly correlated to the pace of M&A and our ability to extract alpha from this M&A market using our fundamental analysis and trading expertise.
With regard to the merger arbitrage strategy, what factors do you consider when choosing companies?
We look for strategic deals. We look for deals that are really value-creative and we look for solid legal contracts with few outs for the buyer. For instance, we are extremely cautious in LBO situations where there is usually a financing condition and reverse termination fees as this scheme gives too much latitude to the buyer to walk away. We look for friendly deals, we prefer cash deals over stock deals, but what is really critical is the level of synergy that can be extracted from the deal. And that’s why we call the fund Diva Synergy. We look for synergies in the merger arbitrage universe, select the best deals, the most logical deals, the deals that really are strong enough to overcome potential issues that can occur.
And in special situations?
There we try to identify takeover targets by focusing on “hot sectors” ripe for consolidation (at the moment healthcare, technology and energy) and detect who are the consolidators/buyers in this industry, who needs to do a strategic move, and then we conduct an analysis and predict deals that are really synergetic. We’re looking for vulnerable companies, companies with valuable assets that can be exploited by a buyer in a more efficient way, allowing him to pay a premium while creating value for his own shareholders. I can give you an example: we own Tiffany shares in our portfolio with a belief that this company will eventually be acquired—probably by the French group LVMH. Tiffany is one of the most valuable brands in the industry, the company has a great network of stores, but we believe that Tiffany within the LVMH group is worth much more thanks to LVMH’s unique experience in Asia. LVMH is a first-class company for marketing and sales and they can really improve the profitability profile of Tiffany and then unlock a lot of value.
I imagine there’s a lot of research in this—do you have a large research department? How do you keep track of all this market activity?
From our past experience, Amit [Shabi, portfolio manager and head of trading] has a great network in capital markets (analysts, traders, portfolio managers) and I have developed a network in the M&A industry (investments bankers, specialized lawyers, PE firms etc.). We have also a nice network of information providers, we use information from databases, from journalists, from experts in each industry and we have also a very diverse network of people we can call and who help us to analyze situations.
Your minimum investment is $100,000 or EUR 100,000, so who are your target investors?
We have a very diverse base of investors including HNWI, family offices, institutional clients, funds of funds, etc. There is no typical profile of investor. We don’t have retail investors obviously, since the minimum is $100,000—to sum-up, our investor base is sophisticated.
Amit Shabi, a Diva Synergy portfolio manager and head of trading, has said he believes we’re at the beginning of about four years of significant M&A activity. Could you comment on that?
Yes, I agree with Amit, the M&A market is definitely a cyclical market and also a confidence game. When I was a former investment banker with Lazard and Rothschild, I already experienced two cycles of M&A and usually cycles last four or five years each. It usually begins with opportunistic, hostile bids, as at the beginning of the cycle you still have a gap between what a buyer is ready to pay and what the target wants as a buyout price and usually you can’t agree on a price which leads generally to a hostile bid. There are a lot of examples at the moment such as Genzyme, Potash, or Airgas. Usually in the beginning of an M&A cycle, boards are still reluctant to sell the company and accept what is seen as lowball offers. This makes it very hard to find an agreed price and usually buyers tend to launch hostile bids and let the shareholders decide. This is a sign of the first phase of an M&A cycle.
The second phase is large deals with a lot of strategic sense and then usually the cycle ends with “crazy deals”: in 2000 it was in the TMT universe, like AOL/Time Warner, and in the last cycle it was the jumbo LBOs, which made little sense. When the M&A market collapses, you see bearish equity markets, lack of confidence, limited access to credit—like the market of ’08, ‘09—and then confidence comes back and a new cycle begins. Now the market is starting to surge again as confidence in deal-making is returning to boardrooms.
So from your perspective, it’s an interesting time?
Yes, we believe that the next 18 to 24 months will present an extraordinary investing environment for our fund. Do not forget that there is $3 trillion in cash sitting in the balance sheets of corporations, these companies cut costs in 2009, now they are looking for growth and M&A will for sure be one major ingredient of this growth.
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