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A Potential Deal Provides a Triple Digit Opportunity

A Potential Deal Provides a Triple Digit Opportunity

Although it sounds counter intuitive, as we have mentioned before, the time to buy into a company could be after big news is announced. Another recent example, as Boston Business Journal reported,

“Enterprise software company LogMeIn Inc. could become the latest local tech company gobbled up by private equity, and at least one M&A lawyer, such a deal would make “perfect sense.”

The Boston-based public company is reportedly in “deep talks to sell” with multiple private equity firms, including Francisco Partners and shareholder Thoma Bravo, according to sources from financial news analysis service StreetInsider.com.

The company’s stock price rose more than 10 percent on the news of the rumors…

LOGM daily chart

“A deal like this, if LogMeIn is interested, makes perfect sense,” Neil Aronson, an M&A lawyer and partner at Needham-based Gennari Aronson, said. “Private equity is looking to do large deals with companies that have a good, solid revenue model and cash flow.”

In 2018, the firm saw $1.4 billion worth of its market valuation wiped away after a quarterly earnings call in which CEO Bill Wagner detailed “executional missteps” stemming from the company’s $1.8 billion merger with GoToMeeting. The company went public in 2009, and Aronson cited that as a potential cost savings if it was now taken private.

“There’s a lot of cost associated with being a public company … A private equity firm taking a public company private is able to strip out all those costs,” Aronson said.

Aronson added that other investors have a chance to make bids, putting pressure on LogMeIn’s management team. Ultimately, it comes down to convincing the major investors in the company that the proposed deal is a good deal for stockholders.

LogMeIn (Nasdaq: LOGM) uses a software-as-a-service model to provide a suite of cloud-based unified communications and collaboration software products. For its latest quarter, the company posted a net income of $5.1 million on a revenue of $316.9 million.

LogMeIn had 730 employees in Massachusetts and is one of the state’s largest software development firms, according to Business Journal research.

Francisco Partners came close to buying part of LogMeIn earlier this year, but talks fell through due to valuation.

Even after the rally, the stock is significantly below its highs.

LOGM weekly chart

A Trade for Short Term Bulls

As with the ownership of any stock, buying LOGM could require a significant amount of capital and exposes the investor to standard risks of owning a stock.

To reduce the risks of a trade, an investor could purchase a call option. This allows them to benefit from upside moves in the stock while limiting risk to the amount paid for the options. However, buying a call option can also require a significant amount of capital and includes the risk of a 100% loss.

Whenever an option is bought, the maximum risk is always equal to 100% of the amount of spent to purchase the option. Since options cost significantly less than a stock, the risk in dollar terms will usually be relatively small to own an option.

To further limit the risks of the trade, an investor could use a bull call spread. This strategy consists of buying one call option and selling another at a higher strike price to help pay for the cost of buying the first call. The spread strategy always reduces the risk of an options trade.

This strategy is designed to profit from a gain in the underlying stock’s price but has the benefit of avoiding the large up-front capital outlay and downside risk of outright stock ownership. The potential risks and rewards of this strategy are summarized in the chart below.

bull call spread

Source: The Options Industry Council

Both the potential profit and loss for the bull call spread are limited. The maximum loss is equal to the net premium paid when the trade is opened. The maximum profit is limited to the difference between the strike prices, less the debit paid to put on the position.

This strategy could be especially appealing with high priced stocks where the share price and options premiums are often a significant commitment of capital for smaller investors.

A Specific Trade for LOGM

Every day, we scan the markets looking for trades with low risk and high potential rewards. These trades are available almost every day and we share them with you as we find them. Now, it’s important to remember these are trading opportunities in volatile stocks.

When we find a potential opportunity, we evaluate it with real market data. But because the trades are volatile, the opportunities may differ by the time you read this. To help you evaluate the current opportunity, we show our math and explain the strategy.

For LOGM, the December 20 options allow a trader to gain exposure to the stock.

A December 20 $80 call option can be bought for about $4.00 and the December 20 $85 call could be sold for about $2.20. This trade would cost $1.80 to open, or $180 since each contract covers 100 shares of stock.

The amount paid to enter the trade is the largest possible loss on the trade. This is generally true whenever a trader is creating a debit to enter an options trade. “Creating a debit” means there is a cost to enter the trade. You could create a debit by simply buying puts or calls to open a directional trade.

In this trade, the maximum loss would be equal to the amount spent to open the trade, or $180.

The maximum gain on the trade is equal to the difference in exercise prices less the amount of the premium paid to open the trade.

For this trade in LOGM the maximum gain is $3.20 ($85 – $80= $5; $5 – $1.80= $3.20). This represents $320 per contract since each contract covers 100 shares.

Most brokers will require minimum trading capital equal to the risk on the trade, or $180 to open this trade.

That is a potential gain of about 177% based on the amount risked in the trade. The trade could be closed early if the maximum gain is realized before the options expire.