Risk Arbitrage with KRL.asx
On the 17 Aug, Bayan Resources Tbk (Bayan) offered to buy Kangaroo Resources Ltd (Kangaroo or KRL.asx) for a 15c a share - originally 9c - a 45% premium to the price on that day. At the moment the order book shows willing sellers below 15c. This deal is for cash, making things nice and easy to understand what the profits and losses are expected to be and should hopefully be settled late Nov. I am convinced this acquisition will go through. Currently what that means is there is a 20% upside if you buy in now, and a 45% downside if the acquisition fails based on the price on the 17 Aug. But due to the probability it will go through, these are great odds.
Bayan already owns the majority of shares (56%) due to a transaction with Kangaroo, where Kangaroo were given 9 mining projects in Indonesia. These are all located close to Bayan’s current mines and Bayan is the developer of these projects along with being the project manager.
There is one more party we need to introduce to this deal so one can understand what is happening. White Energy Company Ltd (WEC.asx) - an Australian coal-tech company.
Why does this opportunity exist? Usually when an opportunity likes this exists, getting into a risk arb opportunity this late to the party is almost impossible. But Bayan is involved in a lawsuit in which it (possibly) owes White Energy Company (WEC.asx) for repudiation and damages of a JV contract.
This was for a coal upgrading plant in which WEC supplied 51% of the funds and Bayan the rest of the funds and the coal. When coal prices rose, Bayan repudiated the contract and the supplying of the coal. The lawsuit is currently taking place in Singapore’s International Commercial Court (SICC) and the proceedings commenced in Dec 2011. Due to this in 2012 the Supreme Court of WA has frozen Bayan’s position in Kangaro.
Recently on the 25th of Sep 2018 WEC announced they would aim to stop Bayan transferring assets to Bayan or to a related entity. If Bayan loses in Singapore and do not pay up, WEC can use the frozen assets to pay back damages.
There are three tranches of the WEC v Bayan court case that need to be solved before that freezing order will be ended, assuming no out of court settlement. Tranche one was determining the scope of obligations under the JV contract. Tranche two is if there has been breaches, and three is if damages and how much should be awarded.
Currently tranche two is being fought out in the SICC, the last major question to be answered is could the project have been funded by WEC. Once that is answered we will get to the damages tranche. From what I can tell after spending hours reading the online court documents, there should be damages. It seems like a clear breach of the contract was made.
From there we now need to return to the acquisition. What happens now? We can assume the WA court will allow for the freeze to be furthered - in wait for the SICC decisions and possible appeals. We can also assume that Bayan knows this, after all this is their only Australian assets that can expropriated if Bayan refuses to pay the potential fines.
Bayan has the money and ability to finance the acquisition and pay damages to WEC. So my best guess is that they will. Why would they not? The Indonesian projects are close to their current operations, they already effectively run the KRL projects and there is massive synergies in owning outright the mining projects.
I think this is a pretty riskless arbitrage. Bayan has been involved in the legal dispute since 2011 and has known about their share freeze in KRL. Thus they are likely to be working out to either settle with WEC or just pay any possible fines and acquire Kangaroo. Until the end of Nov, there are two more court hearings for the acquisition to go through, and and 75% of minority holders must accept. It is our view that these are all formalities. The Foreign Investment Review Board has okayed it, and if Bayan can sort things out with WEC - which is in their best interest - this is a shoe in. KRL has been trading below 15c since 2012, so long term shareholders are probably happy to accept the terms.
Seems pretty good to me.
Disclosure: N/A
Disclaimer: Do your own research, this is not substitute to professional financial and investment advise. I take no responsibility whatsoever in any (in)actions undertaken by any party who reads this, nor do I take any responsibility for any factual inaccuracies.