Market still in thin, holiday mode; deal flow seen picking up swiftly

By Ronda Fears

Nashville, April 21 - By all accounts from traders it was as if the convertible market was still in holiday mode Monday - like London where it was an actual holiday - but new deal buzz helped liven up the market somewhat. In general, the market is of the mind that issuance will heat up soon, and after the close Pride International Inc. launched a $250 million overnighter.

"It might as well have been a holiday," said a convertible dealer, lamenting another slow trading session. But with stocks "floundering at the flat line" (the Dow Jones Industrial Average closed off 0.1% and the Nasdaq down 0.08%) he said there was no incentive for convertible players to get busy.

Buyside sources are pretty content with the earnings stream so far, but most still seem fairly apprehensive about the economy and skeptical of a dramatic turnaround during the remainder of 2003.

"Earnings seem to be going real well," said Ravi Malik, convertible portfolio manager at Froley Revy.

"Particularly on the tech side it's been better, but that's partly because expectations were so low. Inventory is high going into the [next] quarter, but we have to see if demand picks up in the second half of the year."

Moves mentioned by traders sounded like a recording from last week - energy names like Mirant Corp. and AES Corp. moving higher along with Charter Communications Inc. as investors reaching for yields move down the credit scale.

One trader noted that many convertible names in the energy sector that once were undoubtedly distressed credits - Mirant, AES, Calpine Corp. and El Paso Corp. - are back into the regular high-yield arena as a result of the recent bidding war of sorts on those bonds.

Also of note, after the close Silicon Graphics Inc. reported its earnings and filed an exchange offer for its 5.25% convertible senior notes due 2004.

Silicon Graphics is tendering for the $230 million issue, offering new 11.75% straight senior notes or new 6.5% convertible senior notes - both due July 2009.

"The purpose of the exchange offer is to offer holders of the existing notes an increase in yield and (in the case of the 6.5% senior convertible notes) a decrease in the conversion price of their investment in return for an extension of maturity," the company said in a statement. (For full details, see "Tenders and Redemptions" elsewhere in this issue.)

A convertible trader said his initial reaction was that Silicon Graphics would not get the minimum 90% participation, but stressed his assessment was "on first blush, we just put a pen to paper on this."

Silicon Graphics also Monday reported results for fiscal third quarter, ended March 28, which showed a 31% decline in revenue to $217.1 million from a year ago and a net loss of $35 million, or 17c per share, versus net profits of $10.3 million, or 5c per share. The earnings was a huge miss versus the consensus estimate for a 10c per share loss.

The trader pegged the Silicon Graphic 5.25% converts Monday at 77 bid, 78 offered.

Silicon Graphics shares closed up 3c, or 2%, to $1.48.

As of March 28, the company said unrestricted cash, cash equivalents and marketable investments stood at $141 million, compared with $182 million three months earlier.

To the other end, Millennium Pharmaceuticals withdrew its effort to extend the put date on the old Corr Therapeutics converts - the 4.5% due 2006 and the 5% due 2007 - which may cause the bonds to snap back as one trader noted they both ran up beyond the put prices last week because everyone expected a put sweetener.

Millennium has already begun the tender related to the April 29 put, which is at 109.5 for the 4.5s and 108.5 for the 5s. The 4.5s were at 111.25 bid, 112.25 offered and the 5s at 109.5 bid, 110.5 offered.

While Millennium showed a cash and marketable securities position of some $1.5 billion, many onlookers thought it would offer a sweetener to extend the put date on the converts, as it did a year ago, in order to preserve their large liquidity cushion.

Also after the close, Pride pitched its hat into the ring. The $250 million overnighter was probably going toward the approaching call/put on its 0% convert due 2018 on Thursday, sources said.

The Pride deal will break another record for initial conversion premium, as it is set at 80% with the yield talked at 2.75% to 3.25%.

Sources also said the deal was below par in the gray market already, and the stock will surely come under pressure first thing Tuesday.

Deutsche Bank Securities analysts put it 2.7% to 0.6% rich, with the credit spread at 300 basis points over Libor and a 38% stock volatility.

Sellside sources on capital markets desks away from Morgan Stanley were watching to see if the deal would be re-priced by the investment bank to buyers - the result of something of a buyers strike amid the aggressive new deal terms of late.

One banking source also noted that there was a very limited audience for the deal, "given the slow day and lateness of the announcement." He said he was hearing outrights were not touching the deal, and hedgies see it as "very rich relative to comparable bid-side out-the-money calls, especially if you factor in a stock price decline."

In the ongoing market buzz about what names will be bringing new deals, Wachovia Securities convertible analysts Henry Voskoboynik and Dmitry Melnick said in a report Monday they see Conexant Systems Inc. looking to tap the capital markets soon.

"We believe the long-awaited MindSpeed spin-off will substantially improve Conexant's ability to generate free cash flow and the company's credit. We expect Conexant to return to operating and free cash flow generation after the spin-off in complete. We expect the company to generate operating cash flow of roughly $15 million per quarter, starting in the September quarter," the analysts said in the report.

"However, we believe the company will need to tap into the capital markets immediately after the spin-off as its cash balance will reach dangerously low levels (assuming $150 million in cash will be tied up in MindSpeed)."

Conexant said last week it has it retired $100 million of its convertibles during the second fiscal quarter at a cost of $56 million. The chipmaker said the $215 million early debt repayment it received from Skyworks Solutions Inc. during the quarter gave it sufficient resources to retire a "significant portion" of its convertibles four years ahead of maturity.

There could be a sharp reaction in the Teco converts on Tuesday, also, traders said, as Moody's Investors Service slashed the issue and most other Teco debt to junk territory. That could force some holders with restrictions to holding high-yield credits or split-rated paper to dump it, as Standard & Poor's still has a high-grade rating on the company and converts.

The converts were active Monday but activity could pick up on Tuesday, traders said, due to the thinness of Monday's market.

Teco shares closed down 28c, or 2.5%, to $10.93. The mandatory convertibles dropped 0.25 point to 16.75 bid, 17 offered.

Moody's cut Teco's credit ratings two notches, pretty much across the board, citing concern over the company in fact boosting its merchant energy interests by buying out its Panda Energy partners, rather than working toward its stated goal of reducing exposure to that segment of the industry.

"We are disappointed that Moody's took this action in light of the significant announcements that we made on April 11 to further improve our cash position and financial flexibility, said Teco CEO Robert Fagan in a company statement.

"As evidenced by the improvement in the price of our debt securities following our announcements, the debt holders appreciated the steps Teco Energy was taking to improve its cash position."

He noted that Moody's gives the Tampa Electric utility a strong investment-grade rating of A3 rating, and said it continues to have access to the commercial paper market

The downgrade is significant for Teco, however, as it will require additional collateral and trigger other obligations. CFO Gordon Gillette said, though, that the company has the necessary liquidity available to meet the requirements.

Within 15 days, the company must post letters of credit for, or repay, the $375 million unpaid balance of the equity bridge loan associated with the construction of the Union and Gila River power stations. Also, the company must post letters of credit for the estimated amounts remaining under the project completion undertaking for these projects, which it estimated to be $30 million.

The ratings change also causes certain covenants in the $380 million of five-year notes issued in November 2002 to become operative, including EBITDA to interest coverage tests. The company's current EBITDA to interest coverage, as defined under these agreements, is significantly above the minimum levels required.

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