Wednesday, February 10, 2010

BNI-BRK Takeover, Options Market Implications

BNI is trading 99.91. BRK.A is trading 111,600. The LIVEVOL™ Pro Summaries are below.

Here is a quick summary of the takeover - analysis and discussion to follow:

Burlington Northern Santa Fe Corp shareholders will receive $100 per share in cash and stock from Berkshire Hathaway Inc.(BRK-B). BNI Shareholders have the option to convert their stock for a cash payment of $100 per share or receive Berkshire Class A or Class B common stock. This is subject to proration if the elections do not equal approximately 60% in cash and 40% in stock. The stock is subject to a collar whereby the value fo each Berkshire Hathaway share received is fixed at $100.00 if the price of Berkshire Hathaway Class A stock at closing is between approximately $80K and $125K per share. A stock will be fixed at either 0.001253489 per BNI share for values below the collar range, or 0.000802233 per BNI share for values above the collar range. The value of the deal is about $44 billion.

I believe the 10 day pricing period ends today - the ratio of BRK.A shares that each BNI shareholder gets will be $100/{10 day average of the VWAP of BRK-A}.

The actual conversion to stock BNI --> BRK.A is ~ 16th; The deal closes the 12th and BNI ceases to exist. Adding a little more complexity, BNI has a dividend of 0.26 receivable upon closing of the merger.

The BNI options Tab snapshot is included below (click to enlarge).

The BRK.B (1 BRK.A = 1500 BRK.B) Options Tab snapshot is included as well.

We can find what the market is implying about the pro-ration from the option markets. IV30™ for BRK.B is 35 (see below). Hypothetically 1 BNI share could be 60%*$100 and 40%*(something with volatility). See the summary below.

So if BNI 100 calls are worth ~0.55 (from options tab above), and that is a weighted average of:
(1) 0.26 (don't forget the dividend!)
(2) 100 strike call with 35 vol = 2.32

So the market is implying: 0.86*$0.26 + 0.14*$2.32 = 0.55 (i.e. 86% cash payout).

If you ignore the dividend, then the pro-ration indicated by the market is:
0.24*$2.32 + 0.76*$0.00 = $0.55 (i.e. 76% cash payout).

Finally, the BNI Skew chart is included below (click to enlarge). Note that there still is a "real" skew even with hypothetically just 2 days to go for the stock to trade.

Skew Legend
Red - Front
Yellow - Second
Green - Third
Blue - Fourth

Please note these are all approximations (including the dividend - which in and of itself is a separate analysis). This is not trade recommendations (I leave the trading to you), just analysis.

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