Merger Arbitrage Opportunity With Allied and Ares Capital

In my prior post, “Allied Capital Goes from Value Trap to Deep Value,” I made the point that the Ares/Allied acquisition created a potentially interesting merger arbitrage opportunity. As astutely pointed out by commenter BeauZeau at Seeking Alpha, the merger arbitrage opportunity is not quite as large as I portrayed.

In a classic merger arbitrage, the investor ought to short the acquirer Ares Capital (ARCC) and buy the target Allied Capital (ALD). That is because, assuming that the deal closes, the target and acquirer shares are now representative of the same asset. Consequently, any price discrepancy between the two stocks represents a fundamental disconnect with underlying value*. In the case of ARCC and ALD, I posited that the proposed exchange rate of .325 ARCC shares for each ALD share creates an opportunity based on current closing prices.