This is the simplest deal to understand and calculate – For example, on October 6th 2008, ImClone Systems and Eli Lilly announced definitive merger agreement according to which Eli Lilly will acquire ImClone for $70 per share in cash for a total purchase price of $6.5 Billion.
Lets say after the announcement, ImClone trades at $65 per share, therefore the arbitrage spread is $5 or 7.14%. You buy ImClone at $65 and hope Eli Lilly pays you $70 for it.
Return = gross spread / investment. Gross spread = deal price – target co. stock price
$70-$65 =$5 $5/$65= 7.14%
Let’s assume this deal is scheduled to close in 7 months. This trade will yield 12.24% on an annualized basis.
Annual return = (gross spread/ Investment) x (360/210).
The reason this is a simple deal as you don’t have to sell the acquirer, merely buy the stock being bought and wait for the spread to close. These assumptions are all on an unleveraged basis.