Dune quiet as risks, borrow limit interest; XM eases on Sirius results; Epicor, Pennsylvania launch deals

By Kenneth Lim

Boston, May 1 - Dune Energy Inc. was quiet in the gray market on Tuesday with its new convertible preferred seen as mostly an outright play for investors willing to take a risk.

Meanwhile, XM Satellite Radio Holdings Inc. eased slightly on mixed reaction to rival Sirius Satellite Radio Inc.'s quarterly results.

In the primary market Epicor Software Corp. and Pennsylvania Real Estate Investment Trust announced new convertible deals that could raise $450 million when they price Wednesday after the market closes.

Those deals come after convertible issuance in April set record highs. Analysts at Lehman Brothers and Citigroup weighed in on the numbers and found that average cheapness fell in April while issuance could continue at a brisk pace for the rest of the year.

The secondary market remained quiet in the transition between April and May.

"Not a whole lot going on," a sellside convertible trader said. "It's more on the quiet side with respect to secondary trading. I think a lot of people are marking books. Yesterday and today I thought were not very active."

Dune Energy quiet amid risks

Dune Energy's upsized $180 million of convertible perpetual senior preferred stock was quiet on Tuesday with the deal seen as cheap but highly risky and lacking stock to borrow.

The deal priced within talk to yield 10% with an initial conversion premium of 20%.

The preferreds were sold at par of $1,000 apiece. The deal was talked at a dividend rate of 9.875% to 10.125% and an initial conversion premium of 18% to 22% and was initially expected to price Wednesday. Dune Energy stock (Amex: DNE) closed at $2.50 on Tuesday, up by 2.88% or 7 cents.

The size of the deal was originally $140 million. There is no over-allotment option.

Jefferies & Co. was the bookrunner of the Rule 144A offering.

The convertibles come with reset features that will reduce the conversion price or increase the dividend rate if the common stock falls below a certain level or if the company cannot redeem convertibles that are put back after the fifth year.

Dune Energy concurrently offered an upsized $300 million of five-year senior secured notes that priced at par with a coupon of 10.5%.

Dune, a Houston-based oil and gas exploration company, said it will use the proceeds from both deals to acquire all of the outstanding capital stock of Goldking Energy Corp. as announced on April 18. Any remaining proceeds will be used to pay for acquisition-related expenses and for working capital.

"I didn't see anything in the gray market," a buyside convertible trader said. "I'm not sure that these will trade that actively."

The trader said the deal appeared to be cheap, but the discount was necessary to offset the unusually high amount of risk involved.

"They're levering up to more than twice their market cap [of about $150 million]," the trader said. "They've got about $300 million in the high yields that are secured and will rank higher than you if anything goes wrong. You bet it's got to be cheap."

The attractiveness of the deal hinged on how much an investor likes the company's outlook, the trader said.

"It's not my cup of tea, and you're going to see that it's all outrights in this," the trader said. "There's no borrow so you can't hedge it. The only reason why you'd want the preferreds is if you really think that the company's going to take off because of the acquisition. You can collect a really nice yield and if the stock takes off you could have a lot of upside. But that's only if the company can afford to pay that kind of yield on the convertible and the high yields."

A sellside convertible analyst said there was quite a bit of confusion about the deal in the markets, with rumors that indicated both awful and excellent demand for the convertibles. The deal was also difficult to model.

"Usually you'd try to model it into your hedge model and if there's no borrow what do you put into the borrow cost?" the analyst said. "From an outright perspective, if I can't model it I can't do much."

The analyst said the concurrent straight debt left the convertible preferreds in an undesirable place.

"There's a nice cushion for the secured notes, but if they go out of business today and get all the proven reserves and pay out the secured, you'd get about 50 cents on the dollar for the preferreds," the analyst said. "So how can I buy them at par feeling like I've got an asset value of 50 cents?"

"You have to believe the story and the story is it's a tiny [natural gas and oil exploration] company and the assets are going to fluctuate with the commodities of oil and gas," the analyst said.

XM softens on rival's earnings

XM Satellite's 1.75% convertible due 2009 eased about 1/8 point on Tuesday amid mixed sentiment about the recent results reported by XM and its satellite radio rival Sirius.

The XM convertible traded at 86.125 against a stock price of $11.45 on Tuesday. XM stock (Nasdaq: XMSR) declined 2.22% or 26 cents to close at $11.44.

"XM's come down a little the past couple of days," a sellsider said. "I think their results haven't been as positive as many people would have liked, and there's also concern about whether the merger will go through and that's weighing on people's minds."

New York-based Sirius, which is seeking regulatory approval to merge with XM, on Tuesday reported a narrower loss of $144.7 million or 10 cents per share for the first quarter of the year, compared to a $458.5 million or 33 cents per share loss in the year-ago period. Although the cost of adding subscribers decreased to $104 per new subscriber from $113, the higher churn rate of 2.3% from 1.8% suggested that subscribers were dropping out at a higher rate.

Washington-based XM reported its results a week ago and also narrowed its loss for the quarter. XM lost $122.4 million, or 40 cents per share in the first quarter, but its cost of adding new subscribers and churn rate also increased.

Sirius chief executive Mel Karmazin said Tuesday that he remains confident that the deal will be approved and close by the end of the year.

"I don't think a lot of people in the market share that kind of confidence just based on where things are trading," the sellsider said. "It's kind of interesting, because if they don't do well it's obviously not good, but if they do too well the guys in Washington might not think a merger is necessary. It's definitely not a sure thing."

Pennsylvania, Epicor launch deals

Another two convertible deals were announced Tuesday and are expected to price Wednesday after the market closes.

Pennsylvania Real Estate Investment Trust's $250 million offering of five-year exchangeable senior notes is talked at a reoffered price of 98.5 to 98.75 with a coupon of 4% and an initial exchange premium of 20%.

The exchangeables will be issued by Pennsylvania's operating partnership, PREIT Associates LP, and exchangeable into Pennsylvania common stock.

There is an over-allotment option for an additional $37.5 million.

Merrill Lynch, Citigroup and UBS Investment Bank are the bookrunners of the Rule 144A offering.

Pennsylvania Real Estate, a Philadelphia-based real estate investment trust with a portfolio of mall and power and strip centers, said it will use the proceeds of the deal to fund capped call transactions, repay part of a credit facility and for general purposes.

Epicor Software is talking its $200 million of 20-year convertible senior unsecured notes at a coupon of 1.875% to 2.375% and an initial conversion premium of 27.5% to 32.5%.

The convertibles will be offered at par.

There is an over-allotment option for a further $30 million.

UBS Investment Bank and Lehman Brothers are the bookrunners of the registered offering.

Epicor, an Irvine, Calif.-based developer of enterprise application software solutions, said the proceeds of the deal will be used to repay its outstanding term loan and to fund general corporate purposes.

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