Hedge Funds Ratchet Up Ameritrade Merger Pressure
Jun 8, 2007 1:14 PM PT
The hedge funds that earlier this week called for online broker TD Ameritrade to find a merger partner renewed their call for the strategic move, saying the company is ignoring a "massive value creation opportunity."
TD Ameritrade had responded to an earlier call to seek a merger partner by saying it had explored strategic combinations in the past and determined they were not in the company's best interest right now. Ameritrade issued the response and disclosed the hedge funds' pleas for a merger in a Securities and Exchange Commission (SEC) filing, and said it would reconsider a merger "at the right time."
On Friday, the two funds, Jana Partners and S.A.C. Capital Advisors, promptly fired back by sending a second letter to the company, urging it to create an independent committee to explore deals with a more objective eye. The funds outlined in more detail what they say is a compelling case for merging Ameritrade's operations with those of a rival such as E*Trade or Charles Schwab.
"Quite frankly, we fail to see how an unbiased review could leave any doubt that the 'right time' to pursue such a combination is now," the two funds wrote to Ameritrade's board. "This is particularly true given that the company has now completed its integration of TD Waterhouse and that the currently favorable industry environment for transactions will most assuredly not last forever, creating the real risk that if the board continues to wait it will have permanently squandered this opportunity."
Shares of Ameritrade trended markedly higher in afternoon trading Friday, rising 4.5 percent to US$20.89. The stock's 52-week high closing price is $21.08.
Call for Information
The hedge funds, which together own about 8.4 percent of the outstanding shares of TD Ameritrade, asked the board to share its own analysis of why a merger isn't right for the company at this time.
"If the board truly believes that entering into a strategic combination now would not create the highest possible long-term value for TD Ameritrade shareholders, we believe it is the board's duty to explain to shareholders why this is the case, which will require more than general references to optimal timing or business strategy," reads the letter, signed by Jana Managing Partner Barry Rosenstein and SAC CEO Steven A. Cohen.
"Moreover, the Board would have to explain how it can hope to create more value through organic growth when the history of the industry and the company's own history clearly indicate that consolidation has long been the key value driver in the discount brokerage sector, while organic growth has and continues to be highly challenging," they wrote.
TD Ameritrade was formed when Ameritrade merged with the online arm of Toronto Dominion bank, then known as TD Waterhouse. That merger came amid a wave of consolidation in the online brokerage industry, with E*Trade scooping up several rivals in the middle of 2005 -- buying Brown & Co. and Harris Direct in a matter of weeks -- and reportedly engaging in talks with Ameritrade about an acquisition of that company.
At the time, Ameritrade said it would be able to leverage TD's brick-and-mortar banking network and brand recognition as a means to offer more services and attract more customers.
Timing Is Key
Ameritrade will not close the door to possible mergers, but will take a careful approach to any such deals, said Ameritrade CEO Joe Moglia this week. Charles Schwab has said it is not interested. E*Trade had declined comment, but has been known to have held talks about a merger with Ameritrade in the past.
For any additional merger, timing may be key, because the current bull stock market is bound to run out of steam at some point.
For now, online brokers are benefiting from the rising stock market, which is creating more trading and more profits for clients, who often then plow their gains back into new stock purchases or use the proceeds to purchase additional services from their online brokers, such as banking or investment management services.
TD Ameritrade badly needs the boost that a merger will bring, the two hedge funds said. The company has spent $200 million to re-brand itself after the TD merger, the funds noted, adding that its asset growth rate lags well behind that of rivals and the overall stock market.
To back up their assertion, the funds released what they called a comprehensive analysis of the long-term shareholder value to be gained from a strategic merger. "The synergies in such a combination would be enormous," they wrote, "with the company able to save $600 million a year by merging with E*Trade and $800 million by hooking up with Schwab."
The funds also argued that Ameritrade's decision-making is being influenced by Toronto Dominion's interests. The stake that company gained in the merger gave it some right to approve strategic moves going forward.
"We believe that the light of day is a powerful asset for shareholders, and we welcome the board's opening of a public discussion of these matters," the fund managers wrote, adding that they would make a sweeping "books and records" request, which could give it access to extensive internal information about possible mergers.
War of Words
Schwab is the largest online broker, while E*Trade ranks fourth and Ameritrade third by most measures.
The request for records may fall short, with laws in Delaware -- where Ameritrade is incorporated -- requiring specific allegations of wrongdoing before a company can be forced to release records that contain competitive information or trade secrets.
As 40 percent owner of TD Ameritrade, the ball may be in the court of TD Bank, which could make a bid to buy the rest of the company or step aside to allow a merger, Friedman Billings Ramsey analyst Matt Snowling told the E-Commerce Times.
"This type of an overture can often act as a catalyst, even if nothing happens right away," Snowling said.
Recent promotions by Bank of America and Wells Fargo offering free trades probably won't change the dynamics of the industry, but may be a hint that consumer expectations will change over time, forcing companies to take more creative approaches to pricing and service lineups, said Forrester Research analyst Bill Doyle.
The long-term trend is for continued growth in online trading, with Forrester predicting that 12 million U.S. households will trade online by 2011, a 48 percent increase over current levels. Still, the near-term gains driven by the stock market rise are likely temporary, with more volatility to come and companies that are more diversified may be better able to handle the changes to come, Doyle told the E-Commerce Times.
Other analysts have come up with their own scenarios that would have Ameritrade going in a different direction. A merger with optionsXpress, a platform for trading stock options, might make more strategic sense given the diversification and the growth in options trading, Banc of America Securities analyst Michael Hecht suggested in a research note.