A Contingent Value Right (CVR) is a contract that is given to target shareholders when certain element(s) of the target are difficult to value. Such as the success of a drug trial which may result in a significant increase in value for the holder or ultimately have a value of zero. Theoretically, these contracts can be used in any deal or in any environment. However, in mergers and acquisitions they are more frequently used in biotech or pharmaceutical deals and as such become an important part in merger arbitrage valuation.
Because it is difficult to value these parts of the business, having such Boolean outcomes means the price offered by the acquirer in a takeover is difficult to compute. A CVR helps reduce to risk of incorrect valuation by offering a contract, which pays out if certain criteria, are fulfilled.
Characteristics of a CVR
CVR‘s are similar to call options or warrants. They frequently have an expiration date, sometimes a very long expiration date depending on the nature of the contract, just as warrants do. Beyond this date, the contract expires worthless if the valuation events has not been triggered. Again, this is similar to call options that expire worthless if the underlying stock does not rise above the option strike price. For more information on using options in merger arbitrage see our article How to use Options in a Merger Arbitrage Strategy.
Most contingent value rights are non-transferrable reducing the burden on the issuing firm. However, some may be transferrable and traded on a stock exchange. In this case, market forces will help determine a fair price for the CVR and investors or merger arbitrageurs can enter or exit a position as per their risk appetite.
Contingent Value Right Example
CVR‘s are similar to call options or warrants. They frequently have an expiration date, sometimes a very long expiration date depending on the nature of the contract, just as warrants do. Beyond this date, the contract expires worthless if the valuation events has not been triggered. Again, this is similar to call options that expire worthless if the underlying stock does not rise above the option strike price. For more information on using options in merger arbitrage see our article How to use Options in a Merger Arbitrage Strategy.
Most contingent value rights are non-transferrable reducing the burden on the issuing firm. However, some may be transferrable and traded on a stock exchange. In this case, market forces will help determine a fair price for the CVR and investors or merger arbitrageurs can enter or exit a position as per their risk appetite.
The following text is taken from the 8-K filing made by Achillion Pharmaceuticals on October 16, 2019 in relation to the proposed takeover by Alexion Pharmaceuticals
Contingent Value Rights Agreement
At or prior to the Effective Time, Alexion and a rights agent mutually acceptable to Alexion and Achillion will enter into the CVR Agreement governing the terms of the CVRs to be received by Achillion’s stockholders. The CVRs are not transferable except under certain limited circumstances, will not be evidenced by a certificate or other instrument and will not be registered or listed for trading. The CVRs will not have any voting or dividend rights and will not represent any equity or ownership interest in Alexion, Merger Subsidiary, Achillion or any of their affiliates.
Each CVR represents the right to receive (1) $1.00 upon the earlier of (i) first dosing of the first patient with ACH-5228 in the first Phase III clinical trial, (ii) the Conversion Date (defined in the CVR Agreement as the date when the first action specified in the protocol for the corresponding Adaptive Trial (as defined in the CVR Agreement) is taken following the decision to modify such Adaptive Trial to proceed as a Phase III clinical trial) for the first Converted Trial (as defined in the CVR Agreement) of any pharmaceutical product containing ACH-5228, and (iii) the first submission of a new drug application to market and sell any pharmaceutical product containing ACH-5528 in the United States (the “Clinical Trial Milestone”), in each case, prior to the fourth anniversary of the consummation of the Merger (the “Clinical Trial Milestone Period”), and (2) $1.00 upon Alexion’s first receipt of approval by the FDA of a new drug application which approval grants Alexion the right to market and sell ACH-4471 in the United States (the “Regulatory Approval Milestone”) prior to the date that is fifty-four months after the date of the consummation of the Merger (the “Regulatory Approval Milestone Period”). Such payments will be made on or prior to the date that is fifteen (15) business days following the achievement of the Clinical Trial Milestone or the Regulatory Approval Milestone, as applicable (the “Milestone Payment Date”).
In this document, the contingent value right is clearly explained stated and it is shown how they will develop value based upon the fulfilling of pre-specified criteria. Payment dates are also specified.
