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Bidding war? The market says Whole Foods could go for more than Amazon’s $42 a share offer

Key Points
  • Amazon has agreed to buy Whole Foods for $42 per share.
  • The stock is trading significantly above that price, and some options traders appear see even greater upside.
  • Barclays analyst Karen Short would not be surprised to see a "bidding war."
Is a Whole Foods bidding war coming?

Whole Foods shares are rising as high as $43.64 on Monday, as some traders continue to believe the stock will sell for more than the $42 per share at which Amazon has agreed to buy the grocery company.

"A strategic bidder has significantly greater synergies that they can put through on their valuation multiple on Whole Foods, which would mean that they could top Amazon's bid," Barclays analyst Karen Short said late Friday on CNBC's "Trading Nation."

If the expectation was that the company would indeed be purchased for $42 per share in cash, we could expect shares to trade right around that price (given that on one hand, a mild discount to takeout price can be expected given that money received later is less valuable than money received now, but on the other, Whole Foods pays a moderate dividend yield). And in fact, it is not uncommon to see shares of a company to be acquired trade at a discount to the offered price when there is uncertainty about whether regulators will approve the deal, as some have suggested there is in this case.

But with Whole Foods trading at a roughly 3 percent premium to the offer price, it seems clear that some see the potential for another bidder to step in.

One of the clearest places to see this speculation is in the options market. Call options with a striking price of $42 have become very popular; the 42-strike calls expiring in January and the 42-strike calls expiring in August were two of the most heavily traded options Friday. These are rather direct ways to speculate on the eventual takeout price: Those who think the stock will get taken out significantly above $42 can buy these calls, while those who think the stock will get taken out below $42 can sell them.

On Monday, this speculation continued; shortly after the open, one trader appeared to buy 3,607 August 42-strike calls for $1.52. This would represent a more-than-half-a-million-dollar bet that Whole Foods will be above $43.52 come the middle of August.

Also on Monday, a large number of August 45-strike calls traded for 60 cents. The price shows that at least some traders see a good chance of Whole Foods being valued at substantially more than Amazon has agreed to pay, as the options would otherwise be worth nothing.

"Options are still pricing in another buyer," Dennis Davitt, portfolio manager at Harvest Volatility Management, wrote to CNBC on Monday.

Davitt further observed that bullish call options are trading at much higher prices than congruent bearish put options, which means the market is "saying the deal is going to happen here or at a higher price."

Some see a robust case for betting on higher Whole Foods prices. In fact, Barclays' Short changed her rating to overweight and set a price target of $48 in the wake of the deal, explaining that "we would not be surprised if there is a bidding war for WFM."

Short's point is that while Amazon "intends to let Whole Foods operate as is," potential competing bidders such as Wal-Mart would attempt to "eliminate overhead" in order to realize up to $600 million in synergies. That means that in the short term at least, the company would be worth more to a more traditional retailer than it would be to Amazon. Short reasons that this theoretically means that such a company could pay more for Whole Foods than Amazon could.

"In theory, all retailers that sell food and compete with AMZN" are potential bidders "because we think most have too much to lose not to bid," Short wrote in a Friday research note.

In addition to Wal-Mart, Short specifically mentions Kroger and Target as potential counterbidders.

Meanwhile, Short says that despite speculation to the contrary, "there is likely little regulatory risk that would prevent a AMZN/WFM deal from being consummated," meaning that "the downside is $42" while "the upside is $57" — obviously making the stock quite attractive from risk-reward standpoint.

Oppenheimer, too, sees more upside; analyst Rupesh Parikh raised his price target on Whole Foods to $45.