The Gabelli ABC Fund letter to shareholders for the fourth quarter 2014.
To Our Shareholders,
For the quarter ended December 31, 2014, the net asset value (“NAV”) per Class AAA Share of The Gabelli ABC Fund increased 0.4% compared with an increase of 2.1% for the Standard & Poor’s (“S&P”) Long-Only Merger Arbitrage Index. The performance of the Bank of America Merrill Lynch 3 Month U.S. Treasury Bill Index for the quarter was 0.00%. See page 2 for additional performance information.
The Gabelli ABC Fund: 2014 – A Year of “Two Shires”
In 2014, global deal volumes increased 47.4% to $3.5 trillion, marking the strongest year for worldwide mergers and acquisitions (“M&A”) since 20071. This surge was propelled by ninety-five deals in excess of $5 billion, more than double the number of comparably sized deals announced last year. In the fourth quarter, deal volume totaled $922.5 billion, an increase of 7% sequentially.
Geographically, there was $1.3 trillion of cross-border M&A during the year, an increase of 78% from 2013. Announced deal volume in the Americas remained robust, totaling $1.8 trillion, with a 47.8% increase over 2013. Of the fifteen largest deals in 2014, eight were in the U.S., accounting for just over $372 billion in total deal volume. European M&A volume continued to be strong in the fourth quarter and finished the year at $869.8 billion, an increase of 54.9%. Asia (ex-Japan) had its best year for deal volumes on record, with an increase of 59.4% from 2013 to total $716.2 billion for the year.
As in the previous two years, Energy & Power represented the most active sector this year, accounting for 16.6% of worldwide volume in 2014. Healthcare and Real Estate rounded out the top three most active sectors, representing 11.3% and 10.7% of global deal volume respectively.
Despite the high levels of deal making, there were many unique events in the M&A space, such as tax inversion legislation, leverage lending guidance, and changes in commodity prices, which increased the risks of deals but also created opportunities throughout the year. Two deals exemplifying 2014’s unique dynamics were Tyson Foods Inc.’s tender for The Hillshire Brands Company and AbbVie Inc.’s acquisition of Shire plc (0.5% of net assets as of December 31, 2014). What started as Hillshire Brands (HSH) acquiring Pinnacle Foods Inc. for cash and stock evolved into a bidding war for Hillshire Brands. In early May, Hillshire announced that they would be acquiring Pinnacle Foods, but, by the end of the month, Hillshire went from the acquirer to the target when Pilgrim’s Pride Corporation announced a $45 cash per share offer for Hillshire. Two days later, Tyson Foods countered with a bid of $50 per share, and the bidding war was underway. Pilgrim’s Pride came back with a $55 bid, and eventually the auction went to sealed bids. Tyson Foods (TSN) emerged victorious with a $63 cash tender offer, paying a premium of 80% to Hillshire’s trading price before its initial deal with Pinnacle, and a premium of 40% to Pilgrim Pride’s initial offer. This deal highlighted the importance of questioning the strategic rationale of deals, the risks of hedging the stock portion of deals when the acquirer becomes the target, and the high rewards of bidding wars.
In contrast to the aforementioned deal, the AbbVie (ABBV) and Shire merger did not unfold as arbitrageurs had hoped. In July, after rejecting a series of proposals from AbbVie, Shire agreed to sell itself to them for $55 billion, in what would have been the largest U.S. tax inversion. The government vehemently condemned these deals, and eventually the IRS and Treasury Department implemented rules to thwart tax inversions. Shortly after the IRS and Treasury published new guidance in September, AbbVie’s CEO reiterated the firm’s commitment to the deal. In hindsight, this comment was shocking, as just a few weeks later, the acquisition was terminated and AbbVie walked. This sent a shock through the entire M&A space, resulting in a “risk-off” mentality that negatively impacted the stock prices of arbitrage names and widened spreads.
As 2015 begins, many of the same factors that fostered elevated levels of M&A activity in 2014 remain present. High levels of cash, a rising stock market, and low interest rates create an environment that is conducive to M&A by providing corporate buyers with favorable options for deal financing. We believe that there will be few, if any, inversions in the pipeline, which should hopefully eliminate the risks that materialized in the Shire deal. Furthermore, as the Federal Reserve contemplates raising interest rates, it should be noted that such an increase would be expected to increase the spreads on deals, hence providing better expected returns. This is due to the fact that spreads are comprised of the risk-free rate, plus a component related to the risks inherent to the deal. The Fund should continue to benefit from the above factors and the acceleration in worldwide M&A.
The Gabelli ABC Fund: Closed Deals
Annie’s Inc. (BNNY), based in Berkeley, California, is a natural and organic food company with a focus on pastas and snacks. On September 9, 2014, General Mills, Inc. announced it would acquire Annie’s for $820 million to expand its presence in the organic food space. The $46 tender offer was contingent upon a 50% minimum and receiving U.S. regulatory approval. The deal closed on October 21, 2014, after clearing the above hurdles. The Fund earned a 2.19% annualized return.
Bally Technologies Inc. is a Las Vegas, Nevada based designer and manufacturer of gaming machines and casino management systems. On August 1, 2014, the company received an $83.30 cash merger offer from New York based Scientific Games, a lottery operator and gaming machines manufacturer. The deal, which is one of several recently announced in the industry, values Bally Technologies at $5.1 billion and received all final approvals in November. The merger was completed on November 21, 2014. The Fund earned a 21.25% annualized return.
Concur Technologies, Inc., based in Bellvue, Washington, is a provider of cloud-based corporate travel software. On September 18, 2014, SAP SE (SAP), the German software giant, announced that it would acquire Concur for $129 cash per share. This merger valued the company at $8.3 billion. After receiving the requisite regulatory and shareholder approvals, the deal closed on December 4, 2014. The Fund earned a 7.14% annualized return.
Indesit Company SpA is an Italian manufacturer of household appliances with sales in Europe, Latin America and Asia. After several months of speculation, on July 11, 2014 Whirlpool Corp. – a Michigan based global manufacturer of home appliances – offered €11.00 cash via a tender to shareholders of the company. The transaction valued Indesit at €1.2 billion and came with the support of the Merloni family, which controlled approximately 60% of Indesit. The tender offer was approved by the European Union and Italian antitrust commissions and successfully concluded on November 28, 2014. The Fund earned a 3.76% annualized return.
LIN Media LLC is a Providence, Rhode Island based multimedia company with forty-three television stations and seven digital channels in over twenty U.S. markets. On March 21, 2014, Media General Inc. (0.1% of net assets as of December 31, 2014), another broadcasting company, announced that it would acquire LIN in a