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On2 Acquisition Vote Meeting Adjourned

At Monday's closing price of $599.68 per share, this values each share of On2 stock at $.5986 per share, very close to the $.60 per share that On2 had announced back on August 5.

Yet, as one writer points out, the price-per-share of Google's shares has risen significantly between August 5 and December 16.

Thomas Kirchner, who manages the Pennsylvania Avenue Event-Driven Fund (PAEDX), engages in merger arbitrage, and owns shares of On2 Technologies. Kirchner claims members of the arbitrage community own at least 30% of all outstanding shares.

"That’s not $0.60 in cash but $0.60 worth of stock independent of Google’s stock price," Kirchner wrote on December 9, 2009. "The problem is that $0.60 worth of Google stock are a lot fewer shares today than back in August when the merger was announced. Google has since risen from the $450s to the $580s, or 29% [but] the merger consideration has remained a constant $0.60. Had management negotiated a fixed exchange rate of, say 0.0013 shares of GOOG for each ONT, then shareholders would receive $0.77 worth of Google stock for their shares now."

Kirchner goes on to say that the deal is even better for Google now, as the company would have to issue approximately 55,000 fewer shares of Google Class A stock today than it would have done in August. At that time, Google's share price would equal approximately 235,000 shares of Google stock for the acquisition to be completed, which means the price of On2 stock has stagnated as a result of the constant $.60 price.

"It is possible that the arbitrage community has smelled blood and will reject the deal, challenging Google to increase its consideration," wrote Kirchner. "For Google, this is its first purchase of another public company. So they are still learning and probably won’t mind bumping the price, especially not if the transaction is so small that it is a mere rounding error in their financials. They simply have to increase the exchange ratio to the level they were willing to pay back in August. That would boost returns to shareholders significantly and win over the support of the arbitrageurs."

Addressing the specific issue of the failure to win the majority of outstanding votes for the merger, Kirchner projected that even a vote to reject the merger would ultimately succeed in bringing Google back to the table.

"We doubt that the transaction will collapse completely," wrote Kirchner. "It makes sense for Google from a strategic point of view. . . . Therefore, we think that Google will eventually increase the exchange ratio to 0.0013 so that investors get as many shares as they would have in August. There remains upside in On2 Technologies beyond $0.60."

The On2 Special Meeting will be reconvened at 4 p.m. on December 23, in Clifton Park, NY. If stockholder approval is obtained and the other conditions for the completion of the merger are satisfied, according to the company, the merger should become effective within two business days of the special meeting.

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