A No-Brainer Way To Earn A Quick 14% (Plus A Solid Yield)
By Nathan Slaughter | June 28, 2018 |

It confounded the experts. Last month, a rare 1915 photo of legendary baseball great Babe Ruth was expected to fetch more than $50,000 at an online auction. Turns out that estimate was optimistic. In the end, the winning bidder paid just $39,000.

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At the other end of the spectrum, a flawless 60-carat pink diamond went under the hammer in Switzerland a few years ago. Appraisers at Sotheby's estimated a price of $60 million. They weren't even close -- the stone eventually sold for $83 million.

When dealing with rare items -- vintage wine, original artwork, collectibles, musical instruments -- it can be almost impossible to nail down a precise value. The best we can do is make an educated guess. Ultimately, the true value of any object is whatever somebody else is willing to pay.

We see the same kind of subjectivity in the stock market sometimes. Take Netflix (Nasdaq: NFLX). One analyst has a strong buy on the stock and believes it will reach $420 per share. Meanwhile, another has a target price of just $125 and is advising clients to sell.

Both "appraisers" are looking at the same set of financial statements. The same subscriber base. The same profit margins. The same assets and liabilities. Yet, they differ in their assessment of the stock's worth by nearly $300 per share. With such wildly divergent opinions from experts, you can see why everyday investors might have trouble knowing when to buy and sell.

How would you like to remove the guesswork? There's a quality stock out there that I can say, without hesitation, is worth exactly $23.50 per share.

How do I know? Because a larger competitor has already offered to purchase the shares at that price. The bid was unanimously approved by the target firm's board of directors.

Now, as I write this, the stock is currently trading at $20.62. Barring a last-minute development that scuttles the deal, there's an opportunity here to pocket a quick 14% profit -- a bit more if you include a $0.22 per share dividend due out in a few weeks.

Let me cut right to the chase. I recently added the stock to my High-Yield Investing portfolio, and I encouraged my premium subscribers to consider doing the same.

But here's the thing... Yes, I'm buying the stock -- not just to capture the merger arbitrage (although it's a nice bonus incentive) -- but rather as a backdoor into the acquiring company.

A Backdoor Dividend Play
As you probably know, these transactions usually mean a financial windfall for shareholders in the company being targeted. That's because their thumbs-up vote is needed to close the deal -- so the acquiring party almost always offers a generous premium to win their approval.

That was certainly the case with Student Transportation (NYSE: STB). My former High-Yield Investing holding was trading at $6.00 per share at the closing bell on February 27. The next morning, it opened near $7.50 following a surprise takeover offer from a privately held Canadian company -- giving us a nice 25% gain overnight.

The terms in this latest deal weren't quite as favorable. In fact, the $23.50 per share bid was below the net asset value (NAV) of the firm's properties. Some Wall Street number crunchers believe the stock is worth closer to $30.

Still, in the days before the offer was first announced back in November, it was changing hands at just $19. When news broke, the shares immediately pushed north of $24 -- above the proposed bid price. That's an indication that the market believes a second, sweeter offer might be forthcoming.

And they were right.

The first bid was $14.8 billion, or $23.00 per share. Half of that amount was to be paid in cash, with the other half taking the form of shares in the acquiring company. But it wasn't quite enough. So a few months later, the suitor came back with a richer offer of $15.3 billion, or $23.50 per share, while also upping the cash portion of the total consideration to 61% from 50%.

That did the trick. As I mentioned above, the board of directors unanimously agreed to the purchase on March 26. But then something bizarre happened. Instead of cheering the higher bid, investors dumped the stock. After climbing above $24 on the first offer, it sunk below $20 on the second.

That behavior is odd, to say the least. It's perfectly normal for a stock to remain below the proposed offer price. Nothing is ever guaranteed, and the discount reflects risks that the deal might get blocked by regulators or abandoned for some other reason. There is also the consideration of time, as these deals sometimes take up to a year to finalize.

That being said, analysts don't see any red flags and seem to be in general agreement that this particular merger will close sooner rather than later. If that's the case, then this looks to be a no-brainer. Why would anyone not buy a stock at $20.62 knowing in advance that they will be able to sell it to somebody else at $23.50 in the near future?

I can only think of one reason.

The acquirer itself has also been slumping lately. According to terms of the deal, shareholders have the option of choosing to take cash or receive shares in the acquiring company on a 1-1 basis. As I write, shares of the acquirer are near $20, well below $23.50.

That means everyone will opt for cash. But the percentages of cash and shares to be distributed are fixed at 61% and 39%, respectively. So, if the deal closed today, we'd receive $14.33 in prorated cash (61% of $23.50), plus 0.39 shares of a $20 stock, or $7.80 in equity value – for a total of $22.13.

I suspect that's why investors remain lukewarm. There's also the slim chance that shareholders could vote against the marriage. But I don't think that's likely, especially since it would bring a hefty 40% increase in dividend payments.

And that's my real motivation here. Sure, the prospect of a quick 10% gain is enticing. Hedge funds pounce on these kinds of opportunities all the time. But where they take a few bucks and run, I plan on sticking around to see what happens.

These two companies will soon combine to form a dominant real estate empire with $90 billion in global assets and $4+ billion in annual operating profits. And these mergers have an uncanny way of unlocking shareholder value.

Get The Name Of This Pick, And Full Access To My Portfolio
Unfortunately, I can't reveal the name of this pick out of fairness to my High-Yield Investing subscribers. But the takeaway here is that opportunities like this come around every so often, and even income-minded investors should be on the lookout.

If you'd like to know more about this pick -- and get access to all of the picks in my portfolio, then consider a risk-free trial to High-Yield Investing by visiting this link.