Advanced Medical prices with wide coupon; Kellwood seen offered at 100.5; Delta plunges; JetBlue warns

By Ronda Fears

Nashville, June 16 - A lack of conviction made for a quiet trading session in the convertible market Wednesday as players await a decision on interest rates, but there was lots of noise - primarily about the broad emergence of takeover protection in new deals of late.

"We just don't have any conviction in this market right now," said a buyside convertible trader at a hedge fund in New Jersey, who speculated the market will remain quiet for the remainder of June and perhaps the entire summer.

"When things don't work, you have to stand on the sidelines, sit on your hands."

Federal Reserve chairman Alan Greenspan's remarks that tame inflation data would probably dictate a more gradual interest rate increase than the market had come to fear prodded several new deals out of the shadows, but it also sent lots of hedge fund players into a tailspin as heavy buying in Treasuries knocked yields sharply lower.

"We always hear woes about those who have lost money in [bond] futures. But futures are an even bet. Someone is on the other side of every trade. This isn't a slot machine. There's no house raking off a guaranteed profit," countered a fund manager in New York.

"Is anyone in convertibles or high yield making money by trading Treasury futures? With 50-50 odds, you'd think someone would be doing very well."

In addition to scaring some issuers into the market, some onlookers said the immediacy of higher interest rates also may spark a series of exchanges for the dozen or so floating-rate convertibles in play. Waste Connections Inc. announced an exchange for its floaters Wednesday, into new floaters, but that was the genesis of the speculation.

As for new deals, players said that while terms have not improved by any great measure, they are happy to see takeover protection become a mainstay in the prospectuses.

Also worth mentioning, E*Trade Financial Corp. called the remainder of its 6.75% convertibles and half of its 6% convertible issue. The market had little to no reaction to the news, however, sellside traders said.

Takeover protection welcomed

The takeover protection inserted into new deal materials conspicuously this week directly relates to the market uproar caused when Mandalay Resort Group became the target of an all-cash takeover by MGM Mirage, which slaughtered holders that had the issue set up on a hedge.

The takeover protection has manifested most often as a premium make-whole provision and has been a magnet for buyers.

"It's a nice development for the market," said a buyside convertible trader at a huge hedge fund in New York.

He said all five deals this week have included takeover protection, but that could not be confirmed on the Kellwood Co. issue.

Meanwhile, the language in Chiron Corp.'s overnighter that emerged after the close was almost overkill.

"It's a lot of specific protection, almost like a private private," said a convertible portfolio manager in New York with funds in both outright and hedged strategies.

In the Chiron deal material, buyside sources said it had a change-of-control put at par, until maturity, if anyone acquires 50% of the voting power or 79.9% for Novartis AG, or upon a merger, in either case unless at least 90% of the consideration is in listed common stock. Also, there is a premium make-whole provision paid on conversion or put in the case of a change of control prior to the first put in year six.

Chiron's $350 million offering of 30-year convertible senior notes were talked to yield 2.25% to 2.75% with a 48% to 52% initial conversion premium.

Advanced Medical seen at 101

Advanced Medical Optics Inc.'s deal had takeover protection and dividend protection as well, and it traded in the gray market - slim as it is these days - at 1 point over issue price, according to a buyside trader, who added that a Moody's downgrade to the credit was a negative for the deal.

The deal was upsized to $300 million from $275 million and set with a coupon of 2.5% and 34.01% initial conversion premium - at the aggressive end of yield talk for 2.5% to 3.0% but cheaply outside guidance for a 40% to 45% initial conversion premium.

Lehman was "deal captain" for the Advanced Medical Optics issue.

Moody's Investors Service cut Advanced Medical Optics senior implied rating to B1 from Ba3 and rated the new convertible at B3. The rating agency said the downgrade was based on increased debt and prospectively weaker credit metrics resulting from the company's planned purchase of Pfizer's surgical ophthalmology business for $450 million.

While noting Advanced Medical's recent exchange of a portion of its existing convertibles, Moody's said its initial credit profile is weaker than anticipated when the credit was upgraded in June 2003. At that time, Moody's said it used a debt-to-EBITDA ratio of 3 times and expected any acquisitions would be small or conservatively financed. After the Pfizer transaction, Moody's estimated the debt-to-EBITDA ratio for the last 12 months will exceed 4.4 times.

Standard & Poor's, however, affirmed its ratings for Advanced Medical and rated the new convertible at B with a stable outlook. Considering its business risks, S&P said the company's expected medium-term financial statistics are consistent with the rating category - medium-term EBITDA margins in the low-20% area and EBITDA interest coverage well above 5 times.

Kellwood issue too "pricey"

Apparel maker Kellwood priced $180 million of 30-year cash-to-zero convertible notes at par for a yield to maturity of 3.5% and 30% initial conversion premium - at the cheaper end of yield talk for a 3.125% to 3.625% coupon and cheapest end of guidance for a 30% to 35% initial conversion premium.

A buyside trader said the uncertainty about takeover protection may have been an obstacle for the deal but also noted it was "rather pricey." He said the low volatility in the stock was a "turnoff" for lots of hedge fund players, as well.

Another buyside trader said he saw the Kellwood issue "offered as low as" 0.5 point over issue price.

Moreover, sellside analysts saw the deal rather expensive, too.

Merrill Lynch & Co. analysts put the Kellwood convertible 0.3% rich to 4.1% cheap at the midpoint of price talk, using a credit spread of 234 basis points over Treasuries and a 25% stock volatility.

Deutsche Bank Securities analysts put it 1.68% rich to 2.71% cheap at the middle of guidance, using a credit spread of 175 basis points over Libor and a 25% stock volatility.

Delta, JetBlue pressure airlines

In the secondary market, convertible investors were seeing Delta Air Lines Inc.'s converts pretty pricey, too, as bankruptcy buzz abounded, and the bonds were for sale.

On headlines and reports of remarks by Delta chief executive Gerald Grinstein, the Delta convertibles dropped as much as 1 point on swap during the session. After the close, traders said a warning from JetBlue Airways Corp. that second quarter revenues would fall short of expectations added pressure to the entire airline group.

A sellside trader said the Delta convertibles were "much lower." He put the 8s at 48 bid, 49 offered, losing about 1 point on swap from Tuesday, and the 2.875s at 53 bid, 54 offered, down about 0.75 point on swap. Delta shares fell 24 cents, or 4% on the day, to $5.71.

A buyside trader said the market reaction was puzzling. "I see the common worthless, but the market has put a $725 million capitalization to it," he commented. "If the company is filing [bankruptcy], then it should be a buck."

Another buyside trader said Grinstein's remarks seemed to be fence-straddling, a tack that would incite its union pilots to agree to stiffer pay concessions while not alarming the financial markets too much.

Grinstein said that Delta "as it is now structured cannot survive in the marketplace" without major changes in its cost structure - like pilot pay - and other areas, but added that the Atlanta-based carrier would resort to filing bankruptcy "only if no other path" to a restructuring remained open.

But addressing Merrill Lynch & Co. Inc.'s airline conference in New York on Wednesday, Grinstein characterized the whole subject of bankruptcy talk as "exaggerated rumors."

Exchanges may target floaters

Waste Connections Inc. commenced an offer to exchange its convertible floaters with new convertible floaters, stating it "intends to update certain features" to match terms now prevalent in the convertible market - chiefly net share settlement and dividend protection.

It appears, one buyside market source said, that the company wants to capture some of the accounting and reporting benefits of a net share settlement and hopes holders will cooperate if they provide dividend protection.

Deutsche Bank Securities, which is holding 40% of the issue, has told the company that it intends to tender all of its notes.

While the Waste Connection exchange is for like floating-rate notes, some fund mangers said it may be a harbinger to similar actions by issuers like Sallie Mae, Wells Fargo & Co. and Wyeth that have floaters outstanding and are very sensitive to interest rate increases.

The latter group, he said, would likely want to exchange the floaters for fixed-rate convertibles, "and that wouldn't be all bad, because with rates going up a lot of the floaters are hit because while you get more yield, your carrying costs also go up in tandem."

© 2015 Prospect News.
All content on this website is protected by copyright law in the U.S. and elsewhere. For the use of the person downloading only.
Redistribution and copying are prohibited by law without written permission in advance from Prospect News.
Redistribution or copying includes e-mailing, printing multiple copies or any other form of reproduction.