The main difference is that instead of selling the original convertible straight back into the market, Intel has tried to score an additional conversion premium and backed the deal with its own credit. Since this carries a negative yield-to-maturity, Intel has, in the process, also got the market to pay for the privilege of holding its debt.
For international investors, the prospect of being able to participate in the computer giant’s A+/A1-rated credit for the first time has not surprisingly been a strong draw, with books closing 10 times oversubscribed in the space of an hour and 25 minutes, or five times once the froth was cleared away.
Investors may not be able to ride the credit for very long, however, because of the deal’s aggressive call option. Since it is also highly equity sensitive, a number of specialists have concluded that it should be more readily classified as an Asian transaction (Samsung), rather than a US transaction (Intel).
With Lehman Brothers as lead manager, the 2.75-year exchangeable offering was priced out of London on Tuesday. Raising gross proceeds of $210 million, it has a 1 February 2004 maturity, an issue price of 106.5%, a zero coupon and redemption at par to give a negative yield to maturity of 2.264%. There is hard no call for six months, therefore subject to the 140% trigger. There are no put options.
The effective conversion premium is 17.3%. Since the underlying convertible has a conversion price of Won108,000 ($82.59) against a current share price of Won220,000 (Monday’s close), it has been valued as if it has been already converted into stock. The convertible can only be exchanged for ordinary shares and not the company’s outstanding GDRs.
Strong demand meant that the deal was priced marginally outside its original indicative terms, with the company opting for a higher issue price (104% to 105.5% indicated), rather than adjust the conversion premium
Underlying assumptions comprise a credit spread of 40bp over Libor, a dividend yield of 1.33% and stock borrow of 500bp, although as one banker points out, stock borrow assumptions are technically infinite, since there are short selling restrictions on the ordinary shares. Historic volatility (60-day) stands at 59% and implied volatility at 46%. At these levels, the deal has a bond floor of 86% of par and fair value of 108% (based on an implied volatility assumption of 50% for then secondary market levels).
Compared to both the Dell and Apple transactions, implied volatility seems low on some brokers’ screens, although the lead argues that this is only because they have been using overly wide credit spreads. Under Lehman’s calculations, both the Apple and Dell deals should be trading around the 49% to 49.5% levels, rather than the 52% to 58% levels quoted by some bankers. In this scenario, the Intel deal offered five volatility points to secondary levels at pricing.
“When the Apple deal was done, an implied credit spread of 200bp over Libor was used for a July 2002 maturity,” says one official. “This was too low. Samsung actually has a straight bond out in the market with an October 2002 maturity and it was trading around the 155bp level at the time. If you use this level instead, it brings the implied volatility of the Apple deal right down.”
The problem with applying any credit assumptions to Intel is that it maintains a zero debt policy. The company operates its balance sheet with about $14 billion in cash and short-term investments and although it has $1.1 billion in debt, virtually the entire amount is classified as AFIC bonds - industrial revenue bonds involving tax breaks from overseas governments.
For the company, the deal was seen as a cost effective means of monetizing its investment in Samsung and maintaining some upside to the stock. Rather than apply a high conversion premium, however, it chose to trade away some of its upside in return for a credit 2.25% subsidy.
“What we have here is a dream issuer with dream terms,” one banker concludes. “Proof that we got the deal right can be seen in its trading record. We priced it at 106.5% and the deal opened one point higher. It perfectly balanced the needs of issuer and investor.”
