Final Paper

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Contingent value rights (CVRs) are contractual options conferred to the buyers of a newly acquired or majorly restructured company to the sellers of that company. Under the CVR, acquirers are committed to paying additional cash or securities to the target company’s stockholders on the occurrence of specified payment triggers; generally, if the CVR issuer’s share price falls below a specific level (Chatterjee, 2003). There are two main types of CVRs, price-protected and event-driven. Price-protected CVRs guarantee the target company’s stockholders the value of acquirer shares issued as consideration in the transaction. Because the CVR essentially hedges against the downside price risk of the rights issuer, it can be seen as a mechanism that guarantees a minimum value for the payment package. Price-protected CVRs are most often used if publicly traded securities are involved, as they are intended to assure the target company’s stockholders of value over the post-closing period (Kirman et al., 2011). Event-driven CVRs similarly give additional value to the target company’s stockholders, but are structured on specified contingencies as opposed to only the share price. For example, payouts could be dependent on milestone achievements such as FDA approval, financial performance metrics specific to the company, or proceeds from asset sales or litigation. These types of CVRs have been commonly used in healthcare and biotechnology M&A deals, where a single successful or failed product can have a disproportionate effect on company valuation (Kirman et al., 2011). CVRs are not yet widely utilized by biotechnology companies, but are quickly emerging as useful tools for valuation and deal structuring. Currently, they are recognized as key tool... ... middle of paper ... ...raints stemming from commitments to CVR holders. Contractual restrictions may constrain management in making operational choices that would otherwise be preferable. Furthermore, CVRs can negatively affect the stock of an acquirer. The overhang associated with potential payout under price-protection CVRs highlights poor stock price performance, with the added possibility of arbitrageurs generating unwanted trading activity (Kirman et al., 2011). If the payout is settled using stock, acquirers must reserve shares and list them. If the payout is in cash, acquirers must establish advance financing and pay any associated cost. As useful as CVRs may be in bridging valuation gaps, they can thus create their own set of valuation and transferability problems. Holders are exposed to the credit risk of the acquirer, as a CVR’s provisions subordinate it to senior obligations.

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