Olam International said yesterday that investors holding a combined $136 million worth of the company's convertible bonds have accepted the offer to exchange the existing bonds for a new CB with a smaller principal and a lower conversion premium. This represents 77% of the $176.4 million outstanding in original bonds and means that the company will be able to book a gain of S$45.08 million ($30 million) before expenses.
Other reasons for the J.P. Morgan-led exchange offer included allowing the Singapore-based supply chain manager of agricultural commodities to lower its upfront debt-to-equity ratio and to reduce the likelihood that it will have to buy back the new bonds in the future. Whether the latter will work is a question that won't be answered for some time yet, but with a conversion price of S$1.38, 20% above the share price before the exchange offer was announced and 29.9% above yesterday's close of S$1.27, the new bonds are more likely to convert over the next few years than the existing bonds which had a conversion price of S$3.84 -- or more than 200% above the current market price.
Bondholders who accepted the offer will get new bonds with a principal amount equal to 78% of the original bond, which means Olam will need to issue new bonds with an aggregate principal amount of $106.08 million. In exchange for accepting the lower principal, bondholders will receive a slightly higher coupon of 1.2821%, versus 1% on the original bonds -- which means their annual interest will be exactly the same in absolute terms as if they had held on to the original bonds. However, the yield-to-put will be slightly reduced to 4.3% from 4.5% on the original bonds.
Seen over the life of the bonds, this means that investors who accepted the exchange offer will now effectively receive 110% of the original bond principal if they put the new bonds back on July 2, 2011, while bondholders who didn't accept the offer can put the original bonds back at 111.11%. The new bonds have the same July 2013 maturity date as the original ones.
Following the exchange offer, $40.4 million worth of original bonds, which had an initial size of $300 million when they were issued in July last year, will remain in the market, according to Olam. The original CB is currently trading at around 80% of face value, having recovered from a low of around 35% at the end of October, partly due to the general market recovery and partly because of a series of buy-backs by Olam, including a tender offer in December.
While the offer looked very generous at the outset - Olam is essentially giving bondholders a three-year equity option at much more attractive terms than on the original bond and at minimum cost - the share price fell 10% between the exchange announcement last Monday and the close of the offer two days later, reducing that initial attractiveness. This may have prompted some of the bondholders to hold on to the original bond to get the slightly higher yield, or perhaps they are even hoping that the share price will recover over the next three years to the extent that they will be able to convert. While the difference in yield on the original and new bonds is quite minimal, bondholders who accepted the exchange offer also had to pay a 1% brokerage fee to carry out the exchange.
Since the end of the offer early Wednesday morning last week, the share price has recovered 2.4%, or 3 cents, and yesterday closed at S$1.27.
Some observers have expressed surprise that Olam didn't try to remove at least part of the put in connection with the exchange offer. As it is now, the company's long-term liabilities won't change - unless the CBs convert before the put date in three year's time. It reduces the principal to 78%, but since the put price has been increased to 141.025 from 111.11 the amount of cash it has to pay out if it has to redeem the bonds is exactly the same as before.
"It makes a non-cash gain of 22 cents to the dollar on the bonds it exchanges today, but will make a loss of 22 cents over the next three years in the form of non-cash interest on the bonds so it doesn't change anything in terms of their treasury management and their cash flows," one market participant notes.
A source close to Olam argues that the company is positioning itself for the event that the market recovers, in which case it would want to be using its available cash to resume its strategy of growing through acquisitions - not to redeem its outstanding CB. With the lower conversion price on the new bonds, it is now much more likely that the bonds will convert.
And in the worst case scenario, if the equity market doesn't recover, it will still have to pay back the same amount as before.
"The company understands that the new reality is that the world is asking companies to de-lever and while it doesn't want to issue equity at current prices, it is quite happy to do so at a 20% premium to the spot price," the source says. And by exchanging the original bonds for new ones with a lower principal, the dilution to existing shareholders will be slightly less than if it had just lowered the conversion price on the original bonds.
As a result of the exchange, Olam's debt-to-equity ratio as of the end of its second quarter (December 31, 2008), will drop to 2.35% from 2.51%.
