Arbitrage Risk/Reward Inverted on Data Domain (DDUP, NTAP, EMC)

The long battle over Data Domain Inc. (NASDAQ: DDUP) may soon be coming to an end.  NetApp Inc. (NASDAQ: NTAP) appears to be coming out ahead of EMC Corp. (NYSE: EMC) as Data Domain told its shareholders on that they should not accept the takeover offer from EMC Corp. and back the NetApp deal.  What is interesting here is that if the would-be higher price target is true, then the risk/reward matrix for merger-arbitrage traders has actually inverted.

The $30.00 price tag was matched at $1.9 billion, but what is interesting is that the EMC offer was all-cash.  So there was no ‘perceived’ event risk in the stock for holders to accept an all-cash offer.

Data Domain cited the issue that it has already accepted a deal from NetApp and noted that it would have to pay a $57 million break-up fee for the termination of the merger on its part.  Data Domain also cited the rival offer from which would allow EMC to terminate or amend its offer at any time before the June 29 expiration date.

There is one issue here that is also worth a note, and that is the regulatory environment.  The Obama administration has said that it wants to review competitive pressures in new mergers more than the prior administration.  With EMC’s solid position in storage and related fields, there may have actually been some regulatory risks to that merger being allowed to close.  There should be no regulatory risks for NetApp’s proposed Data Domain buyout.

With Data Domain stock at $33.00, it is still trading 10% north of the buyout price.  There was speculation last week that the ultimate price would reach $35.00.  Multiple weekend and Monday newspaper articles mentioned this level as well.  If a $35.00 target is accurate, then arbitrage investors today have roughlya 6% upside.  If this merger closes at the existing $30.00 term, then the downside is close to 10% depending upon how NetApp shares trade between now and then.

EMC can technically pay whatever it wants for this buyout.  The same is not true over at NetApp.  A higher bid may come, but that seems to be up to EMC from this point on.

Jon C. Ogg
June 15, 2009