SML Capital 2011 White Paper



Event Driven Strategy Opportunity In 2011


As an event driven fund; the SML Capital Fund should outperform the broader markets in 2011 as investments aligned with activist investors, and those who participate in merger & acquisition led investments should benefit from a convergence of post recession conditions that will lead to above normal returns.

Market Conditions

Market conditions in 2011 represent the BEST investment opportunity for activist and funds tracking the Merger & Acquisition space since the mid-1980’s as M&A could hit $3 trillion in 2011*.

 Four main factors will spur large returns for event driven strategies: 

  • Unprecedented amounts of cash on corporate balance sheets
  • Historically low borrowing costs
  • Stocks and companies undervalued
  • Corporate Stock buy back programs


Corporations are currently sitting on $3 trillion of cash (about 12% of assets), which is the highest level of cash on corporate balance sheets since 1964.  The recent stampede into safety, namely, fixed income and corporate bonds, has created an easy environment for corporate CEO’s to raise cash and access debt from the capital markets. This flight to safety has made corporate borrowing easily available at historically low rates, and in turn, has made financing acquisitions overly attractive.

Cash rich U.S. companies, who are coming out of the recession, will not expand through hiring, but look externally since internal growth via employee expansion is expensive, highly risky and time consuming.

As the economy stabilizes; companies will most likely look to boost their growth, and stock prices, through stock repurchases and most importantly, MERGERS & ACQUISITIONS.

 Conclusion: The current M&A rebound is very early in a long upcoming cycle as cash rich corporations choose to grow through M&A as a way to boost growth amidst a prolonged economic recovery.


 The current environment for borrowing money will spur private equity deals and boost activist and M&A led investments in 2011.

 Beyond the previously aforementioned debt access for corporations; corporate loans are now readily available to private equity firms for deals, and this access to leverage will be a singular driving force behind the rise of event driven investments.

 As the economy and markets recover, levels of debt in private equity deals will rise, and this NEW available access to leverage, will trickle down, and allow private equity firms to offer higher multiples for quality assets.

 Favorite tactics by activist investors include persuading companies to sell under-performing businesses, split themselves up, or sell themselves entirely. Activist campaigns provide private equity firms new opportunities to spend the $500 billion “use it or lose it” war chests they have built up as they look to acquire assets in the open market.

 The $500 billion stock-piled by private equity, along with the available leverage provided by banks, will create an abundance of liquidity for deals, fierce competition and drive up acquisition prices.

 Conclusion: Private equity is back and so is their use of leverage, which will lead to increased competition for deals and drive up multiples/prices for acquisitions.


Stocks at current levels have recently had a nice recovery, but compared to historic valuations, are trading at a considerable discount.

 The S&P 500 is selling at a multiple of 12 times earnings as compared to historic norms of 17 times earnings. While this multiple discount amidst a slow economic recovery may not entice retail investors, on a corporate level, this discount on a multiple is very attractive for corporation looking to expand, while simultaneously taking out their competition through consolidation.

 The current lowered multiples will spur strategic deals and acquisitions by growth companies with high levels of excess cash and private equity firms looking for value propositions.

Conclusion: Lowered stock valuations combined with excess cash on the balance sheets creates an ideal environment for corporations looking to grow, expand, and take out competition through consolidation. Private equity firms will look to take advantage of acquisition opportunities on a valuation basis.


As we have previously discussed, corporations are sitting on historic levels of cash which will also translate to stock buy backs by corporation who will take this opportunity to shrink capitalization and boost the price per share of their stock.

Investors need to examine the current buyback trend and determine what each company will do with the shares. A good portion of corporations will choose to return excess cash via dividend boosts and prolonged share count reductions.

 We believe, however, that a larger portion of the corporations will take this opportunity to execute and integrate acquisitions into the existing company. The share “buy back” represent a significant part of company wealth, either as a direct investment in itself, or more importantly, as currency to make future strategic deals and acquisitions.

 Conclusion: Corporations will use excess cash on their balance sheets to buy back shares, boost their price per share, and then use these shares to make strategic acquisitions at an attractive discount.


The overall markets, spurred by quantitative easing by the fed should be robust for much of 2011. Aside from the government intervention that has pretty much assured higher markets, if history has any validity in predicting market performance think about this:

  • The S&P has averaged a 10.5% annual return since 1933 in the year before a presidential election; 2011 will be a pre-election year.
  • Returns are even better when a first-term president holds office in that pre-election year.


For 2011, the current events in the markets, and the current economic environment, have positioned “event driven” strategies, like the SawMill Capital Fund, to take advantage of unique market opportunities and generate above normal returns.

Deployment of the large amounts of cash from corporate balance sheets, increased leverage afforded by cheap borrowing to private equity firms, corporate stock “buy back” programs, and current low stock valuations should create very unique opportunity for those trading in the event driven space.

 If all four conditions converge, a superfecta of activity could create a truly exceptional year for our fund, and funds in our similar trading space.

 The key to good investing is proper allocation, proper risk management, and the ability to take advantage of opportunities in the markets when they are presented.

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