B. RILEY FINANCIAL INC RILY S
March 12, 2019 - 6:12pm EST by
mitc567
2019 2020
Price: 17.16 EPS 0.90 0.90
Shares Out. (in M): 27 P/E 19 19
Market Cap (in $M): 457 P/FCF -81.9 -81.9
Net Debt (in $M): 1,432 EBIT 45 45
TEV ($): 505 TEV/EBIT 11 11
Borrow Cost: General Collateral

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Description

This is a simple short term (3 days) low risk trading idea with a binary outcome that is based on this week's expected court ruling on the termination fee owed in the Rent-a-Center (RCII) Vintage Capital meger.  I propose shorting B Riley (RILY) and going long the RCII March puts above 15 which expire Friday.  If the Delaware Chancery rules in the favor of B Riley/Vintage Capital then RCII will trade at or below the $15 merger price.  If the judge rules in RCII's favor then RILY will be on the hook for its guarantee of the $126.5 million break up fee.  Vintage has a merger subsidiary that is also on the hook for the fee, but it is unclear to me how much Vintage has contributed to this single purpose entity.  I believe that RILY shares would probably move about 15% in either direction with the outcome, though it is possible that RILY's stock might have more significant downside since the potential liabiltiy dwarfs the money to be made from financing the transaction.

I would short RILY in the proportion of the cost of the RCII put purchase.  For example, if you buy $2,500 worth of puts (167 RCII March 15 $17 strike price puts at $0.15), then I would short 1,000 shares of Riley (15% potential decline x $17.16 = $2,500).  This should provide an outcome of zero dollars of loss if the Chancery rules in RCII's favor.  If it goes in RILY's favor then you have a potential gain of $30,895 on the puts (167 puts x {$2.00 intinsic value -$0.15 cost}) less the loss on the RCII short which I believe will be around 15% or $2,500 for a net gain of $28,495.  You can play this also by shorting RCII, but I feel that this creates more variablity of outcomes.  You can short a number of different RCII March options to add more dollars to the amount invested

I believe that it is likely that RILY wins the favor of the Chancery and that you can achieve a very high short term return on this trade.  There is a Law360 article on this that you can read if you have a membership or get a 1 week trial subscription.  https://www.law360.com/trials/articles/1137305/chancery-says-127m-rent-a-center-breakup-fee-unlikely-  

Here is the language from RILY's recently filed 10-K on this issue:

Recent Developments

 

On June 17, 2018, B. Riley Financial, Inc. (the “Company” or “B. Riley”) entered into certain agreements pursuant to which B. Riley agreed to provide certain debt and equity funding and other support in connection with the acquisition (the “Acquisition”) by Vintage Rodeo Parent, LLC (the “Vintage Parent”), of Rent-A-Center, Inc. (“Rent-A-Center”), contemplated by that certain merger agreement dated as of June 17, 2018, by and among Vintage Parent, Vintage Rodeo Acquisition, Inc. a wholly owned subsidiary of Vintage Parent (the “Merger Sub” or the “Borrower”), and Rent-A-Center (the “Merger Agreement”).

 

In connection therewith, B. Riley and Vintage RTO, L.P., an affiliate of Vintage Parent (“Vintage Merger Guarantor”), entered into a Limited Guarantee dated as of June 17, 2018 (the “Limited Guarantee”), in favor of Rent-A-Center, pursuant to which B. Riley and Vintage Merger Guarantor (together, the “Merger Guarantors”) agreed to guarantee, jointly and severally, to Rent-A-Center the payment, performance and discharge of all of the liabilities and obligations of Vintage Parent and Merger Sub under the Merger Agreement when required in accordance with the Merger Agreement (the “Guaranteed Obligations”), including without limitation, (i) termination fees in the amount of $126.5 million due to Rent-A-Center if the Merger Agreement is properly terminated (the “Termination Fee”); and (ii) reimbursement and indemnification obligations when required (collectively, the “Guarantee Obligations”), provided, that the liability under the Limited Guarantee shall not exceed $128.5 million.

 

In connection with the execution of the Limited Guarantee, the Company entered into a Mutual Indemnity/Contribution Agreement, dated as of June 17, 2018 (the “Mutual Indemnity Agreement”), with the Vintage Merger Guarantor and Samjor Family, LP (collectively, the “Vintage Indemnity Parties”). Under the Mutual Indemnity Agreement, the Vintage Guarantors agreed, jointly and severally, to indemnify and hold harmless B. Riley and its affiliates from damages and liabilities arising out of the Guarantee Obligations, other than those caused B. Riley’s failure to fund under their debt or equity commitments.

 

On December 18, 2018, Rent-A-Center purported to terminate the Merger Agreement because the end date of the agreement was allegedly not extended prior to December 17, 2018 by Vintage Parent. Rent-A-Center delivered notice of such termination to Vintage Parent, and notified Vintage Parent of its obligation under the terms of the Merger Agreement to pay Rent-A-Center the Termination Fee within three business days.

 

On December 18, 2018, Vintage Capital Management, LLC, an affiliate of Vintage Parent (“Vintage Capital”), delivered a letter to Rent-A-Center stating that Rent-A-Center’s purported termination of the Merger Agreement is invalid, that it believes the Merger Agreement remains in effect.  On December 21, 2018, Vintage Capital filed a complaint in the Court of Chancery of the State of Delaware (the “Court”) challenging Rent-A-Center’s purported termination of the Merger Agreement and demand for payment of the Termination Fee. The relief sought by Vintage Capital includes declaratory judgements that the Merger Agreement has not been terminated and remains in full force and effect, that Rent-A-Center has breached its obligations under the Merger Agreement and is not excused from failing to comply with its obligations thereunder and that the Termination Fee is an unenforceable penalty.

 

On December 28, 2018, Rent-A-Center provided each of B. Riley and the Vintage Merger Guarantors with a written request under the Limited Guarantee (a “Performance Demand”), to promptly, and in any event within ten (10) Business Days, pay to Rent-A-Center the Guaranteed Obligations (including the Termination Fee) in full.

 

On December 30, 2018, B. Riley filed a motion in the Court to intervene in the above referenced case filed by Vintage Capital pursuant to which B. Riley is seeking declaratory judgments, among other things, that the parties agreed to extend the End Date under the Merger Agreement and that Rent-A-Center is estopped from terminating the Merger Agreement, that Rent-A-Center has breached the Merger Agreement and its obligations of good faith and fair dealing in connection with consummating the Merger, and that the Termination Fee is an unenforceable penalty. B. Riley is also seeking an award of costs and reasonable attorneys’ fees and such other further relief as the Court finds equitable and appropriate.

 

At a hearing held on December 31, 2018, the Court stated that it would grant a temporary restraining order to preserve the status quo, which order would prohibit Rent-A-Center from engaging in certain transactions pending an expedited trial on the merits. On January 3, 2019, the Court granted B. Riley’s motion to intervene in the Vintage Capital case and on January 7, 2019, the Court granted a temporary restraining order restricting Rent-A-Center from engaging in certain transactions prior to the trial on the merits scheduled for February 11, 2019.  On February 11th and 12th, a trial was held in Delaware, post-trial briefs were filed on February 22, 2019 and March 1, 2019. A post-trial hearing has been scheduled for March 11, 2019. The Company believes that it is reasonably possible that the Court will rule in favor of the Performance Demand. The amount of possible loss is not estimable; however, the range of loss could be from $0 to $128.5 million.

 

 

 

I do not hold a position with the issuer such as employment, directorship, or consultancy.
I and/or others I advise do not hold a material investment in the issuer's securities.

Catalyst

Ruling by the Chancery of Delaware in the termination fee suit between RCII and RILY/Vintage.  The Chancery has indicated it will rule on this issue this week.  If there is a delay, then the options are worthless with RCII at $21.56.

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    Description

    This is a simple short term (3 days) low risk trading idea with a binary outcome that is based on this week's expected court ruling on the termination fee owed in the Rent-a-Center (RCII) Vintage Capital meger.  I propose shorting B Riley (RILY) and going long the RCII March puts above 15 which expire Friday.  If the Delaware Chancery rules in the favor of B Riley/Vintage Capital then RCII will trade at or below the $15 merger price.  If the judge rules in RCII's favor then RILY will be on the hook for its guarantee of the $126.5 million break up fee.  Vintage has a merger subsidiary that is also on the hook for the fee, but it is unclear to me how much Vintage has contributed to this single purpose entity.  I believe that RILY shares would probably move about 15% in either direction with the outcome, though it is possible that RILY's stock might have more significant downside since the potential liabiltiy dwarfs the money to be made from financing the transaction.

    I would short RILY in the proportion of the cost of the RCII put purchase.  For example, if you buy $2,500 worth of puts (167 RCII March 15 $17 strike price puts at $0.15), then I would short 1,000 shares of Riley (15% potential decline x $17.16 = $2,500).  This should provide an outcome of zero dollars of loss if the Chancery rules in RCII's favor.  If it goes in RILY's favor then you have a potential gain of $30,895 on the puts (167 puts x {$2.00 intinsic value -$0.15 cost}) less the loss on the RCII short which I believe will be around 15% or $2,500 for a net gain of $28,495.  You can play this also by shorting RCII, but I feel that this creates more variablity of outcomes.  You can short a number of different RCII March options to add more dollars to the amount invested

    I believe that it is likely that RILY wins the favor of the Chancery and that you can achieve a very high short term return on this trade.  There is a Law360 article on this that you can read if you have a membership or get a 1 week trial subscription.  https://www.law360.com/trials/articles/1137305/chancery-says-127m-rent-a-center-breakup-fee-unlikely-  

    Here is the language from RILY's recently filed 10-K on this issue:

    Recent Developments

     

    On June 17, 2018, B. Riley Financial, Inc. (the “Company” or “B. Riley”) entered into certain agreements pursuant to which B. Riley agreed to provide certain debt and equity funding and other support in connection with the acquisition (the “Acquisition”) by Vintage Rodeo Parent, LLC (the “Vintage Parent”), of Rent-A-Center, Inc. (“Rent-A-Center”), contemplated by that certain merger agreement dated as of June 17, 2018, by and among Vintage Parent, Vintage Rodeo Acquisition, Inc. a wholly owned subsidiary of Vintage Parent (the “Merger Sub” or the “Borrower”), and Rent-A-Center (the “Merger Agreement”).

     

    In connection therewith, B. Riley and Vintage RTO, L.P., an affiliate of Vintage Parent (“Vintage Merger Guarantor”), entered into a Limited Guarantee dated as of June 17, 2018 (the “Limited Guarantee”), in favor of Rent-A-Center, pursuant to which B. Riley and Vintage Merger Guarantor (together, the “Merger Guarantors”) agreed to guarantee, jointly and severally, to Rent-A-Center the payment, performance and discharge of all of the liabilities and obligations of Vintage Parent and Merger Sub under the Merger Agreement when required in accordance with the Merger Agreement (the “Guaranteed Obligations”), including without limitation, (i) termination fees in the amount of $126.5 million due to Rent-A-Center if the Merger Agreement is properly terminated (the “Termination Fee”); and (ii) reimbursement and indemnification obligations when required (collectively, the “Guarantee Obligations”), provided, that the liability under the Limited Guarantee shall not exceed $128.5 million.

     

    In connection with the execution of the Limited Guarantee, the Company entered into a Mutual Indemnity/Contribution Agreement, dated as of June 17, 2018 (the “Mutual Indemnity Agreement”), with the Vintage Merger Guarantor and Samjor Family, LP (collectively, the “Vintage Indemnity Parties”). Under the Mutual Indemnity Agreement, the Vintage Guarantors agreed, jointly and severally, to indemnify and hold harmless B. Riley and its affiliates from damages and liabilities arising out of the Guarantee Obligations, other than those caused B. Riley’s failure to fund under their debt or equity commitments.

     

    On December 18, 2018, Rent-A-Center purported to terminate the Merger Agreement because the end date of the agreement was allegedly not extended prior to December 17, 2018 by Vintage Parent. Rent-A-Center delivered notice of such termination to Vintage Parent, and notified Vintage Parent of its obligation under the terms of the Merger Agreement to pay Rent-A-Center the Termination Fee within three business days.

     

    On December 18, 2018, Vintage Capital Management, LLC, an affiliate of Vintage Parent (“Vintage Capital”), delivered a letter to Rent-A-Center stating that Rent-A-Center’s purported termination of the Merger Agreement is invalid, that it believes the Merger Agreement remains in effect.  On December 21, 2018, Vintage Capital filed a complaint in the Court of Chancery of the State of Delaware (the “Court”) challenging Rent-A-Center’s purported termination of the Merger Agreement and demand for payment of the Termination Fee. The relief sought by Vintage Capital includes declaratory judgements that the Merger Agreement has not been terminated and remains in full force and effect, that Rent-A-Center has breached its obligations under the Merger Agreement and is not excused from failing to comply with its obligations thereunder and that the Termination Fee is an unenforceable penalty.

     

    On December 28, 2018, Rent-A-Center provided each of B. Riley and the Vintage Merger Guarantors with a written request under the Limited Guarantee (a “Performance Demand”), to promptly, and in any event within ten (10) Business Days, pay to Rent-A-Center the Guaranteed Obligations (including the Termination Fee) in full.

     

    On December 30, 2018, B. Riley filed a motion in the Court to intervene in the above referenced case filed by Vintage Capital pursuant to which B. Riley is seeking declaratory judgments, among other things, that the parties agreed to extend the End Date under the Merger Agreement and that Rent-A-Center is estopped from terminating the Merger Agreement, that Rent-A-Center has breached the Merger Agreement and its obligations of good faith and fair dealing in connection with consummating the Merger, and that the Termination Fee is an unenforceable penalty. B. Riley is also seeking an award of costs and reasonable attorneys’ fees and such other further relief as the Court finds equitable and appropriate.

     

    At a hearing held on December 31, 2018, the Court stated that it would grant a temporary restraining order to preserve the status quo, which order would prohibit Rent-A-Center from engaging in certain transactions pending an expedited trial on the merits. On January 3, 2019, the Court granted B. Riley’s motion to intervene in the Vintage Capital case and on January 7, 2019, the Court granted a temporary restraining order restricting Rent-A-Center from engaging in certain transactions prior to the trial on the merits scheduled for February 11, 2019.  On February 11th and 12th, a trial was held in Delaware, post-trial briefs were filed on February 22, 2019 and March 1, 2019. A post-trial hearing has been scheduled for March 11, 2019. The Company believes that it is reasonably possible that the Court will rule in favor of the Performance Demand. The amount of possible loss is not estimable; however, the range of loss could be from $0 to $128.5 million.

     

     

     

    I do not hold a position with the issuer such as employment, directorship, or consultancy.
    I and/or others I advise do not hold a material investment in the issuer's securities.

    Catalyst

    Ruling by the Chancery of Delaware in the termination fee suit between RCII and RILY/Vintage.  The Chancery has indicated it will rule on this issue this week.  If there is a delay, then the options are worthless with RCII at $21.56.

    Messages


    SubjectEdit
    Entry03/12/2019 06:14 PM
    Membermitc567

    This should read the RILY short not RCII.  

    If it goes in RILY's favor then you have a potential gain of $30,895 on the puts (167 puts x {$2.00 intinsic value -$0.15 cost}) less the loss on the RCII short which I believe will be around 15% or $2,500 for a net gain of $28,495. 


    SubjectRe: intrinsic value question
    Entry03/12/2019 07:20 PM
    Membermitc567

    Because that means that the deal is still valid an all RCII shareholders will receive is $15 per share once the Feds approve it. 


    SubjectRe: intrinsic value question
    Entry03/12/2019 08:47 PM
    Membermajic06

    You think the options market is selling puts at pennys this week and next in a situation that's likely to end up where RCII is forced to be sold at $15.  That's your trade.  It doesn't make a lot of sense to me why you think this but that's the trade, in a nutshell.   

    Engaged Capital who is basically an insider was buying stock hand over fist after the deal "broke".  That, coupled with the market trading RCII at 21 and the put market completely yawning at this Friday catalyst tells me there is no more than a 5% chance (1%?) the deal is forced to close at $15.  

    I have no idea about the breakup fee but that's irrelevant for the profit in this trade, which is the RCII put side.  


    SubjectRe: disagree on the RILY side
    Entry03/12/2019 08:53 PM
    MemberRay Palmer

    I guess I also disagree on the RCII side now that I think about it.

    If the judge holds the merger agreement is good, RCII isn't going to trade to <$15. It'll trade to >$15 as RCII will appeal and the market will factor in $15 as the downside and >$15 as the upside (either from RCII winning the case and having a fair value >$15, from RCII losing the case but then getting blocked in anti-trust and having a fair value >$15, or from Vintage and RILY recutting the deal w/ a slight bump to get RCII to drop the case and let them close the deal at a huge discount to what RCII's fair value seems to be).


    SubjectRe: RILY safe either way?
    Entry03/13/2019 11:26 AM
    Membermitc567

    Thoughts.

    1. The guarantee by Vintage is only as good as the money it has invested in the single purpose entity.  Other than suing Vintage and/or the lawyers, I don't believe that this risk is immaterial.

    2. If the Chancery sides with RILY, I don't believe that RCII has much of a leg to stand on as they are required to cooperate in closing the deal.  It would seem unlikely that an appeals court would take a case like this.

    3. I think it is unlikely that a judge "splits the baby" and disallows the break up fee, but allows the break up. RCII acted in "bad faith" and if the judge believes this, then if it disallows the break up fee they will have the deal continue.  Though this would be the biggest risk.

    4. No insights in how the judge may rule.  The Law360 article made it seem like the judge was against the break up fee.

     


    SubjectRe: Re: RILY safe either way?
    Entry03/14/2019 01:43 PM
    Memberrizzo

     "If the judge rules in RCII's favor then RILY will be on the hook for its guarantee of the $126.5 million break up fee."

    Is this likely? Vice Chancellor Glasscock said that he will "decide the case 'based on the language of the contract and the facts surrounding the parties' attempts to comply therewith'."

    The contract may entitle RCII to a reverse termination fee but since these are typically legal mechanisms to make the target whole, it looks unlikely that Rent a Center will be able to enforce this since penalties are usually forbidden in contract law. Vintage was foolish to not formally extend (there's a friendship between principal partner and the Rent a Center CEO that could matter here), but the actions by RCII do not show it had the best interests of shareholders in mind. If no deal was the better option, RCII could have simply called the process off and not agreed to follow through with the FTC/govt assessment. 

    In your 10-K quote it mentions a Limited Guarantee related to the deal. Doesn't this read as if RILY will have no exposure here? The issue isn't related to funding. Further, if RILY were exposed to this, do you think it would be hard for RCII to hold liable an investment bank over the PE firm?

    Some other quotes from the judge:

    VC said that that, if it were clear that Vintage inadvertently failed to extend the contract and RAC terminated despite a quick corrective by Vintage, "A reverse breakup fee of this magnitude seems extremely unlikely to me."

    Separately, the vice chancellor said, "it just seems passing odd to me" that the two parties envisioned "a counter-party blowing a notice date, giving the first party the opportunity to walk away for its own purposes while the counter-party remained ready to work toward closing, and still demand a breakup fee."


    SubjectRe: Not one person’s going to say anything?
    Entry03/15/2019 12:12 AM
    Memberazia1621

    So RCII wins this battle (which is exactly what equity/options markets have been predicting), but as it relates to RILY, the war is far from over.  The judge has not yet ruled on the reverse break-up fee, and there is language in the opinion that indicates he is actually inclined to "split the baby" and not enforce the reverse break-up fee, particularly given its unusual size.  Or at the very least, allow for a substantially reduced fee in line with typical reverse break fees ($24m vs $126m).  From law360:

    "While the court pointed to clear principles of contract law to uphold the merger termination, the vice chancellor said Rent-A-Center’s prospects for collecting a $126.5 million reverse termination fee were less clear.

    A footnote in the decision noted that Vintage’s expert report found that the fee amounted to 15.75 percent of the estimated $803 million equity value of the proposed deal, compared with the court’s experience that 3 percent was more typical, depending upon the deal. A 3 percent termination fee would amount to $24.1 million.

    “Vintage is ready to move to closing; it is Rent-A-Center that is causing the merger to terminate. That is Rent-A-Center’s contractual right,” the vice chancellor wrote, “However, I question whether the parties considered this scenario in contracting for the reverse break-up fee.”

     

    And later:

    “Despite the limited application of the implied covenant, I am dubious whether the parties meant for a reverse breakup fee to apply in this situation,” the vice chancellor said, noting that he had requested briefs from both sides on the issue.

    The vice chancellor wrote that it was “clear that there was no gamesmanship” on Vintage’s part, “it simply forgot to exercise its contractual right.”

    In other words, there's no suspicion at all that Vintage was acting in bad faith.  Hence, a reverse break-up fee of this magnitude is unwarranted.

    And then, even if the judge does rule to enforce a reverse break-up fee of some kind, there is still Vintage's indemnity agreement with RILY agreeing "to indemnify and hold harmless B. Riley and its affiliates from damages and liabilities arising out of the Guarantee Obligations."

    Note how RILY is already positioning itself on this question in their statement today:

    "Although B. Riley is not a party to the Merger Agreement, we secured the necessary debt and equity financing to fund the transaction months before Rent-A-Center elected to cancel the merger.  We upheld our clients commitments in support of closing the deal."

    I don't know what the timing is on a ruling re the reverse break fee, but if RILY trades down significantly tomorrow I think this could be a great opportunity.


    SubjectRe: Re: Not one person’s going to say anything?
    Entry03/16/2019 05:24 PM
    Memberrizzo

    I might be off here, but I thought a reverse termination fee was based on making whole the party that suffered the breach? In other words I don't think it's a tool to penalize a breach of duty. 

    From ABA website and related to a different lawsuit, but probably applicable here: "The Parties have agreed in light of the circumstances existing at the time of execution of this Agreement (including the inability of the Parties to quantify the damages that may be suffered by the Company) this Section 7.2(c) is reasonable, that the Parent Termination Fee represents a good faith, fair estimate of the damages that the Company would suffer in the applicable circumstances and that the Parent Termination Fee shall be payable as liquidated damages (and not as a penalty) without requiring the Company to prove actual damages." 

    https://www.americanbar.org/groups/antitrust_law/committees/mergers_contract_provisions_database/mergers_topic/reverse_break_fees/

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