Arbitrage When ASX & TSXV Companies Merge

(Kasbah Resources; KAS.ASX)

Here are some thoughts on arbitrage that arises when two junior mining companies listed on two different jurisdictions decide to merge. Let’s consider merger between companies listed on Australian Stock Exchange (ASX) and Canadian stock exchanges (let’s collectively call them here TSXV for brevity).

Many years back, a TSXV company, Brilliant Mining, was merging with an ASX company, Panoramic Resources. Brilliant was trading at a fraction of the value it was getting based on the merger terms. Partially a believer in “efficient market hypothesis”, I thought that this discrepancy would not stay too long. Ironically, not only the discrepancy stayed for months, it also increased as the merger came closer. If my memory serves me right, just before the merger closure, the arbitrage was about 300%.

Over the last few years, arbitrage between merging companies in Canada has been about 30% or so. When a similar merger happens between a Canadian and an Australian company, the upside tends to be much higher.

I offer five reasons behind why arbitrage comes to exist:

→ Investors fail to do some basic math before investing, even when the merger is between companies trading on the same exchange.

→ Many investors do not have a brokerage account that trades on both, ASX and TSXV. This means that if a Canadian investor with his Canadian online brokerage is going to end up with shares listed on ASX—or vice versa—he will be keen to sell before he ends up with untradeable holdings. (The way out of this problem is to have a brokerage account that allows you to trade on both exchanges. Interactive Brokers might be the best, for they offer very, very cheap rates to buy companies trading on ASX. And if for whatever reason you can still not trade your shares in IB, you can move them out free of cost to another broker—IB does not charge you for moving your shares out.).

→ ASX companies often have more than a billion shares. Similar companies on TSXV would generally have 1/10th shares outstanding. In the erroneous image of investors (erroneous, for in reality it is Market Capitalization, not share price that matters), a merger between ASX and TSXV companies creates a confusion of imagery.

→ Investors are often focused on only one jurisdiction. This means that they do not understand value that the other entity brings to the deal and hence they tend to sell.

→ Once in a while a spin-off or merger might result in some bureaucratic problems—this is now mostly not a problem because of electronic trading. Also, some investors might be afraid of tax consequences and the added difficulty in calculating it.

While the above might explain why arbitrage comes to exist the fun is in making money from it.

I have been wanted to provide a proper case study. The one that follows has many unknowns, so it is best to see if you can fill in the gaps before deciding to invest…

Kasbah Resources (ASX:KAS; A$0.025) is being acquired by a Canadian company. There is a >50% arbitrage upside in owning KAS. Moreover, there is a possibility of a better offer, for KAS seems to offer good value by itself.

I would not rush to buy KAS, for the current acquiree is likely not bringing much value and perhaps might bring in care & maintenance liabilities from their current mining operations in Vietnam. The reason I am so uncertain whether KAS is an opportunity is because the project is of tin (which I don’t understand well), and I have failed to connect with the managements of either of the two companies, despite repeated requests. If you can fill in these gaps, you might position yourself to make a better decision.

On other matters...

In my last musings, I wrote about the arbitrage that Gold Mountain (GUM) offers. GUM has gone up quite a bit. I would still hold on to GUM. You might want to see that the situation with arbitrage has got reversed. The arbitrage is now in owning Anthem United (AFY; C$0.245)—there are a lot of shares available at this price so no need to chase.

Next month, I will be speaking at the Precious Metals Symposium in Sydney.

Warm regards,

Jayant Bhandari

www.jayantbhandari.com

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