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As Hudson’s Bay Co. prepares to exit the Toronto Stock Exchange, tax-driven trading in the retailer’s stock is taking investors for a final wild ride.

HBC executive chairman Richard Baker and a group of private-equity funds plan to take the department-store chain private for $11 a share, ending their eight-month campaign by removing the stock from the TSX when trading ends on Wednesday. The final stage of takeovers such as HBC’s typically sees the target company’s stock trade a few cents below the price of the offer, as hedge funds and other professional investors buy shares, then flip them to the acquirer for pennies per share in profits.

However, this corporate drama has already featured twists and turns – HBC’s stock price bounced around between $8 and nearly $11 since last June as Mr. Baker’s consortium improved its offer twice and faced regulatory setbacks. And there is a tax wrinkle in this buyout that has kept hedge funds on the sidelines and contributed to significant recent swings in HBC’s share price.

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Here’s the background: Where most takeovers see one company buy another, triggering capital gains tax for investors, the HBC buyout triggers dividend taxes, which means a far larger hit for most investors. The difference in tax treatment reflects the fact that this takeover will see HBC repurchase and cancel all the shares not owned by Mr. Baker’s group, an approach that suited the company and the buyer. For most investors, seeing a significant portion of their gains taxed as dividends means a larger tax bill, if they do nothing and let Mr. Baker’s group buy their HBC stock. It’s possible that in the short term, the tax hit will be larger than the profits that investors earn on their HBC holdings.

HBC spelled out the potential tax issues in a series of press releases, including one issued last October that said to avoid a hefty tax bill, “shareholders may prefer to sell their common shares in the public markets with a settlement date that is prior to the completion of the transaction.” Institutional shareholders paid attention. Funds run by CI Financial Corp. sold 7.8 million HBC shares in recent months, while portfolio managers at Power Corp. of Canada sold a 1.8 million share HBC position, according to regulatory filings.

Now that the deal is close to closing, the wisdom of getting out early is becoming apparent.

Last week, as it became clear the takeover would close as scheduled, significant HBC stock sales drove the share price well below the $11 offer. There were a series of trades last Thursday that saw sellers receive $10.70 or less a share for their HBC holdings – approximately 55,000 shares changed hands around this price – even though the stock changed hands around $10.95 per share for most of the session. According to stock traders, the moves in HBC’s stock price reflected the fact that many of the hedge funds that typically smooth trading by investing in takeovers – it is known as merger arbitrage – are steering clear of this deal because of the potential tax bill. (Pension plans and other large, tax-exempt investors don’t typically pay much attention to arbitrage investments.)

Based on trading records, individual shareholders had little trouble exiting HBC. The average trade on the TSX last week saw about 900 HBC shares change hands without moving the price more than a penny or two. Larger positions, typically owned by institutions, did have an impact on the market. The investment dealers handling the bulk of the HBC traffic included Morgan Stanley, CIBC and Canaccord Genuity.

HBC shares closed Tuesday at $10.99 on the TSX. Anyone buying HBC at that price stands to make just a penny of profit per share when the stock is delisted Wednesday, and potentially face a tax hit for their troubles.

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