Digital Realty slips in start; Borders scraps offering; Chattem quiet; General Mills launches overnighter

By Kenneth Lim

Boston, April 4 - Digital Realty Trust Inc. faltered in its secondary market debut on Wednesday in a lackluster session for new deals.

Borders Group Inc.'s planned $250 million offering had a surprise ending after it was canceled because of shareholder feedback, a move that surprised observers and sparked a wave of speculation.

Chattem Inc. was quiet in the gray market on mixed views about the cheapness and the availability of stock borrow.

Meanwhile, General Mills Inc. said after the market closed that it sold $1 billion of 30-year convertible senior notes.

Outside of the new deals the market remained quiet, which may have contributed to the lack of excitement over the new deals, market sources said.

"I already have clients who are packing up and going on holiday," a sellside convertible trader said. "It's going to be hard to find people to make the gray market."

Digital Realty slips on debut

Digital Realty's new 4.375% perpetual cumulative convertible preferred slid below its already lowered reoffered price on Wednesday amid a weak common stock, although analysts said the new paper looked fairly interesting.

The convertible was seen at 23.75 against a stock price of $39 early Wednesday. It was reoffered at 24.125. Digital Realty stock (NYSE: DLR) fell 2.35% or 95 cents to close at $39.39.

"They were in the 23.75 to 24 range the whole morning," a sellside trader said.

Digital Realty priced the overnight $175 million deal with an initial conversion premium of 20%. The convertible preferreds have par of $25. They were talked at the same coupon and conversion premium and a reoffered price of 24.375.

There is an over-allotment option for a further $26.25 million.

Credit Suisse was the bookrunner of the registered shelf offering.

Digital Realty, a San Francisco-based real estate investment trust that focuses on technology-related properties, said the proceeds of the deal will be used to repay unsecured debt, potentially acquire property and fund redevelopment activities and general corporate purposes.

"I think at that level it looks pretty good," one convertible analyst said of the final pricing. "I assumed they had to remodel it even lower. When I modeled it, I was modeling it about 0.75% cheap and that's not including stock slippage. Because they didn't buy back any stock, when all the hedge funds go to buy stock to short you're going to see some stock slippage, as evidenced by the decline today - which is why they probably had to reoffer it even lower. That in conjunction with the fact that it's another REIT and it's a preferred, which not everybody likes."

That analyst had a credit spread assumption in the low-200 basis points over Libor region.

But another sellside analyst, who modeled the deal in the mid-300 basis points over Treasuries range, said the deal looked interesting because it actually has a yield advantage over the common stock, which pays a dividend of about 2.9%.

"It's definitely interesting compared to some of the recent REIT deals," the sellsider said. "There isn't any gamma because there's no bond floor, but it can be set up on a hedge in a more conventional way because it's got a yield advantage...I think it had some merit on that basis."

Although the sellsider said the credit spread would have to be wider than usual because it was a preferred, the relatively generous yield on the convertible made it worth a closer look.

"A lot of those REIT deals when they first came were originally more with the outright buyer in mind, and as volatility started to pick up and people could actually trade and capture some gamma then it became more interesting to the hedge community," the sellsider said. "This one is more like a conventional convertible."

Borders yanks deal

Borders canceled its $250 million offering of seven-year convertible senior notes on Wednesday, citing "shareholder feedback."

The deal was originally slated to price after the market closed. Borders is re-evaluating the offering and other financing alternatives and will provide an update at a later date, the Ann Arbor, Mich.-based book retailer said in a statement.

The deal was talked at a coupon of 2.75% to 3.25% and an initial conversion premium of 20% to 25%. They were offered at par.

There was an over-allotment option for a further $37.5 million.

JP Morgan and Merrill Lynch were the bookrunners of the Rule 144A offering.

Borders, an Ann Arbor, Mich.-based book retailer, said the proceeds of the deal would be used to partially repay an outstanding senior secured revolving loan and to fund general corporate purposes.

Syndicate sources declined to comment.

The move came as a surprise for market observers and rumors circulated in the Street about the reason for the cancellation. One sellside convertible analyst said the deal may have been canceled partly because of poor interest in the offering. Another analyst said there was speculation that shareholders felt the new debt would make it harder to sell the company.

Chattem quiet on split views

Chattem's planned $85 million of seven-year convertible senior notes was quiet in the gray market on Wednesday with analysts divided over the attractiveness of the offering.

The deal was talked at a coupon of 1.625% to 1.875% and an initial conversion premium of 20% to 26%. The convertibles were offered at par and were expected to price after the market closed. Chattem stock (Nasdaq: CHTT) closed at $59.03, up by 1.76% or $1.02.

There is an over-allotment option for a further $15 million.

Merrill Lynch is the bookrunner of the Rule 144A offering.

Chattem, a Chattanooga, Tenn.-based maker of over-the-counter healthcare, toiletries and dietary supplements products, said $25 million of the proceeds will be used to fund a convertible note hedge transaction and to repay outstanding debt.

One sellside analyst said the deal looked about 1% cheap at the midpoint of talk using a credit spread of in the mid-200 basis points over Treasuries range and a volatility around 30%. But problems with the stock borrow would shave off most of that discount.

"I think there's a borrow problem," the analyst said. "There was a previous deal [from Chattem] that was tightly placed and doesn't really trade. I think it was probably kind of hard to hedge. There just isn't a lot of stock out there to borrow...I think it's a weak credit. Probably just from looking at the short interest that's out there I kind of got the sense that the borrow was going to be a problem."

But another convertible analyst heard that the borrow was going to be top rate.

"I think it actually looks pretty good. I had it modeling like 1.25% cheap," said the analyst who used similar assumptions. "We expect this to be at full rebate. We're hearing that the borrow is fine."

General Mills prices deal

General Mills on Wednesday announced an overnight $1 billion offering of 30-year convertible senior notes talked to yield one-month Libor minus 7 basis points with an initial conversion premium of 69.6% and a reoffered price of 99.75

The deal will price Thursday before the market opens. There is an over-allotment option for a further $150 million.

Morgan Stanley was the bookrunner of the Rule 144A offering.

General Mills, a Minneapolis-based producer of packaged consumer foods, said the proceeds of the deal will be used to partially repay its outstanding U.S. commercial paper.

General Mills stock (NYSE: GIS) closed at $58.97 on Wednesday. It slipped 0.98% or 58 cents to $58.39 in after-hours trading following the announcement of the deal.

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