LNR, Chesapeake, Axcan rise; buyers for Gap's convertibles as stock slides on sales news

By Ronda Fears

Nashville, Feb. 28 - New paper was strong out of the gate, with the three new deals freed to trade Friday moving 2 to 3 points north of par as convertible investors came off the fences to put money to work.

In other areas of the secondary, traders said buyers stepped in for Gap Inc.'s convertibles, which buoyed the bonds as the stock shed 12% on weak spring sales.

As it was, the Gap converts lost 8.25 points but held up well on a relative basis.

"With this surge of new deals, at least in number [of deals] if not in size [dollar amount], and more anticipated, everyone is coming off the sidelines," said the head convertible trader at a major investment bank.

"We've seen deals this week, too, that provided room for both outrights and hedge funds to participate. It's made for a better flow all the way around."

Four deals came to market this week, injecting $510 million into the market.

But the dealer noted that several redemptions have been announced recently, so the market is anxious to see new paper replace what's being taken out of circulation.

New deals were still getting credit for a good deal of activity in the convertible market.

"The new deals are spurring some activity. The buyside has plenty of cash to put to work," said Pat Prendergast, head of convertible research at Thomas Weisel Partners.

"Almost all of them [new issues] are trading up. That's a reflection of having a lot of cash, and that the new issues have a lot more delta."

Market sources expect issuers in general to be more active in the first half of the year than the latter, but also to be perhaps quicker to come to market before a war breaks out.

"The longer it takes [for the war to begin], more issuers will go ahead," with financing plans, Prendergast said.

"The more the war gets put off, the more activity we'll see."

In a very quickly marketed deal, LNR sold an upsized $200 million of 20-year convertible notes.

While the LNR deal popped up rather suddenly late Thursday, the market had been anticipating an overnighter.

LNR priced the convert with a 5.5% coupon and 37% initial conversion premium - at the cheap end of yield talk and at the cheaper end of premium guidance. The overnighter was upsized from $175 million.

The LNR convert was seen around 102 bid, 102.5 asked around midday. The stock closed up 1c to $33.06.

Axcan Pharma Inc. also upsized its deal, selling $110 million of five-year convertible notes at par to yield 4.25% with a 38% initial conversion premium - at the rich end of yield talk and outside revised premium guidance.

It was upsized from $100 million.

In the immediate aftermarket, the Axcan convert closed at 103 bid, 103.5 asked - about even with where it was in the gray market before pricing. The stock ended off 31c to $9.84.

Chesapeake Energy Corp. sold $200 million of perpetual convertible preferreds at par of 50 to yield 6% with a 25.45% initial conversion premium - at the rich end of revised yield talk and at the cheaper end of revised premium guidance.

Also, Chesapeake sold $300 million of 7.5% of 10-year senior notes at 99.102 to yield 7.625%, or a spread of 387 basis points over Treasuries, and fetched $162 million in the sale of 20 million shares of common stock at $8.10 apiece.

The Oklahoma City-based independent oil and gas producer plans to use proceeds from the offerings to pay for its $530 million acquisition of mid-continent natural gas assets from El Paso Corp.

Chesapeake's new convert ended at 52.5 bid, 52.75 asked, - also about where it was in the gray on Thursday. Chesapeake shares were off 8c on the day to close at $8.12.

Proceeds from of all the deals by Chesapeake will be used toward its purchase of natural gas assets from El Paso Corp. for around $530 million.

El Paso itself had a couple of junk bonds totaling $700 million afloat through its Southern Natural Gas Co. and ANR Pipeline Co. units. Those deals both priced to yield 9.125%.

Funding activity by El Paso this week heartened some convertible investors. The El Paso converts, which had been flat for most of the marketing period for the SoNat and ANR deals, edged up a bid Friday.

El Paso's 0% convert was quoted up 0.25 point to 34.125 bid, 36.125 asked and the 9% mandatory up 0.125 point to 23.125 bid, 23.375 asked.

El Paso shares closed down 4c to $4.86.

Gap lost ground but found buyers among those who still believe in the credit story, traders said.

In fourth quarter, Gap posted a profit versus a loss a year ago, but equity investors staged a sell-off as the company stated the spring season was off to an unexpectedly slow start.

After the market close Thursday, Gap reported a fourth quarter net profit of $249 million, or 27c per diluted share, versus a loss of $34 million, or 4c per diluted share, a year earlier. Fourth quarter sales rose 14%to $4.7 billion and same-store sales were up 8%.

Gap also said, though, that February same-store sales to date are below its projections, partly because of weather but also because shoppers are less willing to pay full price.

While some equity analysts found troubling spots at Gap, such as its decision to increase advertising spending, some credit-minded convertible analysts remain positive.

"Debt statistics continue to improve sharply," said Sri Nadesan, Wachovia Securities convertible analyst, in a report Friday.

The company ended the year with total debt of $3.4 billion, he said, which will likely go to $2.9 billion due to an expected debt paydown of $500 million in 2003.

Gap's leverage ratio, which was 3.2x on Aug. 3, steadily declined to 2.5x on Nov. 2, and then to 1.9x on Feb. 1, he noted

"This improvement is largely due to EBITDA growth," Nadesan said.

"We estimate the leverage ratio will improve to 1.6x once the company pays down the $500 million of short-term debt.

Currently, Gap has $3.4 billion in cash and equivalents on its balance sheet, he noted, and generated $935 million of free cash flow in fiscal 2002.

Gap "should be able to generate at least similar amounts [of free cash flow] over the next few years, meaning the company should have a lot of flexibility to pay down debt, even if it has to either buy back debt in the open market or tender for bonds," Nadesan said.

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