BKI - Black Knight: Why The Market Isn't More Excited About Divestiture News

Summary

• Black Knight is being acquired by Intercontinental Exchange for $68 + 0.144 share.
• The market is very skeptical about whether the deal will pass muster with regulators.
• Black Knight has announced a key divestiture that makes a closing much more likely.
• If the deal doesn't work, I'm not convinced the downside is disastrous.

May 4, 2022, Intercontinental Exchange, Inc. ( ICE ) announced the acquisition of Black Knight, Inc. ( BKI ). Initially, BKI traded up on the deal, but it has given up on all those gains. The deal spread is very wide at $68 and 0.144 ICE shares. The consideration adds up to $83.48. Which leaves ~34% upside if the deal were to close. That's the catch, though. To realize the upside, the deal needs to close. Black Knight creates software, data, and analytics for the mortgage, home equity loans, and credit market. Market participants are skeptical this deal will ultimately close or at least believe it will take a very long time.

There is essential news that Black Knight is looking to sell its Empower segment. Per Seeking Alpha:

Black Knight ( BKI ) hired Truist to help explore a potential sale of Empower and has been soliciting interest from possible buyers, including private equity firms, according to a Reuters report, which cited people familiar. Empower may be valued at about $400 million.

Seeking Alpha also said that a CTFN report said last month that bankers have been engaged about possible divestitures to try and get regulator approval for the acquisition. Also, per Seeking Alpha:

Bank of America in a November upgrade of ICE said that the company would likely capitulate on divesting Empower to appease potential antitrust concerns.

The original Reuters item (linked above) that set off the 2% surge included what I view as a key paragraph limiting the amount BKI appreciated (emphasis added):

It is unclear whether a divestment of Empower would be sufficient to allay any FTC antitrust concerns. Holly Vedova, director of the FTC's Bureau of Competition, said in a speech last week, without addressing the Black Knight deal specifically, that the agency was not inclined to approve mergers on the basis of divestitures.

"A review of academic research on the adequacy of proposed remedies reveals concern and skepticism over efforts to fix - rather than block - anticompetitive mergers," Vedova said.

However, if you dig into that speech (that's very interesting anyway), the above quote seems to offer a very narrow reading of what was actually said. Admittedly, I will do the same thing by quoting another piece. However, the aim is to show how the Reuters quote can be misinterpreted (emphasis mine):

The Bureau of Competition will only recommend acceptance of divestitures that allow the buyer to operate the divested business on a standalone basis quickly, effectively, and independently, and with the same incentives and comparable resources as the original owner. This type of remedy has a better track record of success and a low risk that it will not maintain or restore the intensity of premerger competition. We will no longer consider remedies where there is heightened risk of failure. These include proposals of less than standalone business units, or where there are forward-looking entanglements between the buyer and seller, such as supply agreements...

Divestitures are fine as long as they are "real" divestitures.

In my prior article on this deal, I went into a lot more detail on why I believe the downside may not be so bad if the deal breaks. For example, in the "background of the merger" paragraph of the merger agreement , it shows a private equity bid in the $73 - $75 range and Black Knight receives a $725 million deal break fee. In that article, I also assessed how peers performed since the merger agreement, and that picture wasn't too dire.

I'm unsure if a merger with a condition like this can go ahead without a complete divestiture. For example, with the promise that the divestiture will be completed promptly. I think that won't work, so the merger may actually take a bit longer and seems less likely to close in Q1 2023.

However, there are extensions possible (under the agreement) until November 23' to deal with regulatory objections like we're seeing here. As Black Knight is a good business, at least the downside is being mitigated while the process drags on and the company generates earnings.

Even if the Black Knight, Inc. deal closes at the end of 2023 (and that seems very unlikely now), 30%~ upside is still really good. The blended expected value of all possible outcomes has likely improved since my last article, and that's why I'm adding shares on the news. For good measure, I don't hedge the position by being short ICE. Independent of this deal, I already owned Intercontinental Exchange, Inc. shares as I think it is a great and attractively valued company as well. I don't mind receiving ICE shares as consideration.

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