Category: Issue Comments

Scotia Managed Companies has announced that BNS Split Corp II:

has called 192,141 Preferred Shares for cash redemption on September 21, 2007 (in accordance with the Company’s Articles) as a result of the special annual retraction of 1,296,280 Capital Shares by the holders thereof. The Preferred Shares shall be redeemed on a pro rata basis, so that each holder of Preferred Shares of record on September 20, 2007 will have approximately 6.863% of their Preferred Shares redeemed. The redemption price for the Preferred Shares will be $20.83 per share.

The underlying security for BSC.PR.A is shares in the Bank of Nova Scotia. Asset coverage is 2.5:1.

The issue is rated Pfd-2(low) by DBRS, which looks very low to me. Their initial and as yet unchanged rating report for the company dated October 11, 2005, states:

The rating of the Preferred Shares is based on:
(1) The available downside protection, which is approximately 50% to the principal amount of the outstanding Preferred Shares at closing;
(2) The credit quality and consistency of BNS’s dividend distributions; and
(3) Portfolio shares that could be sold to provide liquidity and certainty of dividends to Preferred Shares.

The main constraint to the rating is the dependence of the entire portfolio on the shares of BNS for downside protection and dividend income.

The redemption date for both classes of shares will be September 22, 2010.

ScotiaBank preferreds are rated Pfd-1, this represents the upper limit for a split share corporation based on the common. As of last year’s Tier 1 analysis, Scotiabank had … call it $4,000-million of non-equity tier 1 capital covered by $16,000-million-odd equity. So call it 4:1 on the Scotiabank preferreds that are issued directly.

I don’t think Pfd-1 is appropriate until coverage exceeds 3:1 in any event … but I would be comfortable with a Pfd-2(high) rating on BSC.PR.A, given the 2.5:1 coverage.

BSC.PR.A is not tracked by HIMIPref™

These are total returns, with dividends presumed to have been reinvested at the bid price on the ex-date. The list has been restricted to issues in the HIMIPref™ indices.

Not a stellar month for the BAM issues! These issues were discussed in the comments to the August 15 Market Action report; the basic story is that to a certain extent the BAM issues will trade as Pfd-3’s, a notch or two below their actual credit ratings of Pfd-2(low) (DBRS) and P-2 (S&P).

There are various explanations of why they should trade this way:

• BAM simply has too many issues on the market. There will be some participants who are attracted by the risk/reward profile, but have already bought all the BAM that they’re comfortable with having in the name [Note: This is very often a situation that applies to MAPF]
• The issue suffers from a conglomerate discount. Not very sensible, perhaps, but who ever told you the markets have to be sensible?
• Credit Anticipation. Some people believe that BAM is over-rated by the ratings agencies and explicitly trade it as a Pfd-3

Evidence from the world of bonds is available in some indications I have of 5-year CDS levels (see the Primer Links if you don’t know how a Credit Default Swap works). BAM is quoted at 39-44bp, +11 on the month; Enbridge (issuer of ENB.PR.A) is at 48-54bp (+1); Bombardier (BBD.PR.B / C / D) at 162-179 (-62); Alcan (until recently AL.PR.E / F) at 24-28 (+5); TransCanada (TCA.PR.X / Y) at 23-27 (-1); and finally BCE (lots!) at 397-418 (+54). Make of this what you will!

Update: It should be noted that there were a lot of Pfd-3 and other issues that did worse than the BAM issues. The list, as noted above, was restricted to issues included in the HIMIPref™ issues.

DBRS has announced it:

has today downgraded the Class B, Preferred Shares (the Preferred Shares) issued by Energy Split Corporation (the Corporation) from Pfd-2 (low) to Pfd-3 (high) with a Stable trend and has removed the Preferred Shares from Under Review with Developing Implications where the rating was placed on November 8, 2006.

The net asset value (NAV) of the Corporation decreased significantly shortly after its reorganization. The quick decline can be attributed to the Canadian government’s October 31, 2006, announcement relating to the change in taxation on income trusts and to the sensitivity of the Royalty Trust Portfolio, consisting of oil and gas income trusts, relative to the price of oil. Downside protection decreased from 54% at reorganization to 42% on November 2, 2006. Since then, the downside protection fluctuated in a band from 35% to 45% before falling to 34% on August 30, 2007, the low point since reorganization.
…
The redemption date for both classes of shares will be September 16, 2011.

Asset coverage is 1.52:1 as of August 30, according to Scotia Managed Companies. Thus, the underlying portfolio can lose 34% of its value before eating into the value set aside on the balance sheet for preferred shareholders, which is what DBRS means by “downside protection”.

ES.PR.B is not tracked by HIMIPref™.

DBRS has announced that it:

has today downgraded the long-term debt ratings of Quebecor World Inc. (Quebecor World or the Company) to B (high) from BB, and downgraded the preferred share rating to Pfd-5 (high) from Pfd-4. The trend on all ratings is Negative. Commensurate with the ratings downgrade, the ratings have been removed from Under Review with Negative Implications.

These issues were put on Review-Negative on August 14, 2007. They were downgraded from Pfd-4(high) on August 9, 2006.

It ain’t because of sub-prime, at least not directly:

DBRS had placed the ratings of Quebecor World Under Review with Negative Implications on August 14, 2007, as a result of concerns over the Company’s near-term liquidity, the uncertainty in terms of the outcome of negotiations regarding the Company’s bank agreements and the Company’s strategic review of its European printing operations. (Please see separate DBRS press release dated August 14, 2007.)

The downgrade reflects DBRS’s heightened concern over the Company’s near-term financial health which has been materially impacted by liquidity constraints and increased pressure on existing financial covenants.

Quebecor World’s liquidity continues to be adversely impacted by declining EBITDA and cash flow from operations, and could be further constrained should the Company violate debt covenants which could result in early debt redemption. Additionally, DBRS notes the Company’s near-term liquidity issues could be further impacted by restricted access to financing as a result of current capital market conditions.

S&P downgraded these issues to P-5(Watch Negative) from P-5(high)(Watch Negative) on August 28, 2007.

BCE has announced:

that 9,918,414 of its 20,000,000 Cumulative Redeemable First Preferred Shares, Series AA (“Series AA Preferred Shares”) have been tendered for conversion, on a one-for-one basis, into Cumulative Redeemable First Preferred Shares, Series AB (“Series AB Preferred Shares”). Consequently, BCE will issue 9,918,414 new Series AB Preferred Shares on September 1, 2007. The balance of the Series AA Preferred Shares that will not have been converted will remain outstanding and will continue to be listed on The Toronto Stock Exchange under the symbol BCE.PR.A.
    The Series AA Preferred Shares will pay on a quarterly basis, for the five-year period beginning on September 1, 2007, as and when declared by the Board of Directors of BCE, a fixed dividend based on an annual dividend rate of 4.800%.
    The Series AB Preferred Shares will pay a monthly floating adjustable cash dividend for the five-year period beginning on September 1, 2007, as and when declared by the Board of Directors of BCE. The Series AB Preferred Shares will be listed on The Toronto Stock Exchange under the symbol BCE.PR.B and should start trading on a when-issued basis at the opening of the market on August 28, 2007.
…
Under and subject to the terms of the definitive agreement, as amended, the investor group has agreed to acquire all of the outstanding Series AA Preferred Shares at a price of $25.76 per share and all of the outstanding Series AB Preferred Shares at a price of $25.50 per share, together, in each case, with accrued but unpaid dividends to the Effective Date (as such term is defined in the definitive agreement).

I previously recommended conversion into the AB shares … the difference in take-over price is minimal after accounting for interim dividends and the difference in expected dividends should the deal not go through is enormous.

The results of this conversion are excellent for traders, should the BCE prefs survive … two very large issues that convert into each other every five years should provide ample opportunity for arbitrage.

It has been a long time coming – and  the fund invested too early, as I can now tell with benefit of hindsight – but as of noonish today, 80,669 shares of BAM.PR.N have traded; it’s currently quoted at 19.46-60, 3×81.

It’s either a blow-out sale or a panic-stricken margin call!

BAM.PR.M has traded 1,700 and is quoted at 20.85-86, 5×18 … so investors can now swap virtually identical instruments and take out $1.25 … although, admittedly, the potential volume that could be done on the M side at these levels is probably extremely limited.

DBRS has announced it has:

placed the BB long-term debt ratings and Pfd-4 preferred share rating of Quebecor World Inc. and its related subsidiaries (Quebecor World or the Company) Under Review with Negative Implications. The Under Review – Negative status reflects DBRS’s concerns over the Company’s near-term liquidity, outcome of negotiations regarding the Company’s bank agreements (the existing waiver for which expires at the end of Q3 2007) and the Company’s strategic review of its European operations – all factors that have been exacerbated by continued weakness in the Company’s operating results. DBRS expects to complete its review after the end of Q3 2007.

DBRS is concerned with Quebecor World’s near-term liquidity, which continues to be negatively impacted by declining EBITDA and cash flow from operations, pressuring existing financial covenants and significantly restricting the Company’s financial flexibility.

It hasn’t been too long since these issues were downgraded from Pfd-4(high) to Pfd-4.

S&P rates the issues P-5(high) as of Sept 28/06; Watch Negative as of August 9/07. When placing the issues on Watch Negative, S&P stated:

“The CreditWatch placement reflect Quebecor World’s ongoing weak performance and our concerns that the company’s earnings, credit measures, and financial flexibility could weaken further due to a challenging pricing environment, operating losses in its European division, and intense competition,” said Standard & Poor’s credit analyst Lori Harris. “Furthermore, Quebecor World’s waivers from its bank group for certain financial covenants are only approved through to the release of its third-quarter 2007 financial results,”

HIMIPref™ maintains the Quebecor World preferreds in its database. These issues are recorded solely for the sake of continuity and have no influence on the calculation of yield curves.

EPCOR Preferred Equity has announced (and its parent, EPCOR, has confirmed, in case anybody’s worried there’s a rogue treasurer on the loose):

its intention to redeem all of the outstanding Cumulative Redeemable First Preferred Shares, Series I (“the Preferred Shares”) on September 30, 2007 at a redemption price of $25.00 per Preferred Share. The Preferred Shares were issued to investors by EPCOR Preferred Equity Inc. on September 27, 2002.
    EPCOR will fund the redemption from cash balances and funds available under its revolving credit facilities.

Eight-million of these shares were outstanding, rated Pfd-2(low) by DBRS.

According to EPCOR, EPCOR Preferred Equity

was established for the purpose of raising equity capital, on a consolidated basis, for EPCOR Utilities Inc., its parent corporation. In turn, the capital is used to provide loan financing to other subsidiaries of EPCOR Utilities Inc.

This issue has not been included in the HIMIPref™ universe.

Update 2007-09-11: The headline previously referred to this issue as “EPE.PR.E”. This error has now been corrected.

BCE closed today on the TSX at $38.85 – down $0.25 after dipping as low as $37.55. This is way below the $42.75 takeover price – just over 9.1% below, in fact – so, given that the takeover is a matter of great pith and moment for preferred share investors, I thought I’d review what’s happened so far.

On June 30, I reported on the takeover and my puzzlement regarding the inclusion of the preferred shares in the offer. The Teachers press release trumpetted:

The purchaser has obtained a debt commitment to finance the transaction subject to usual terms for these types of financings.

It should be noted that the “Purchaser” is not Teachers, but a numbered company set up by it and its partners.

On July 17, the Great Sub-Prime Panic of ’07 got rolling in earnest:

Mind you, a little safety could be just what the doctor ordered down south! Bear Stearns has warned that the smaller of its two famous hedge funds is a total write-off, and the other one isn’t much better. Take this lesson to heart: just because a firm is good at selling investments doesn’t mean that they’re necessarily good at running investments.

On July 26, I had to admit:

I couldn’t resist checking the definitive BCE / Teachers’ Agreement: 

6.4(9): The Purchaser acknowledges and agrees that its obtaining financing is not a condition to any of its obligations hereunder, regardless of the reasons why financing is not obtained or whether such reasons are within or beyond the control of the Purchaser. For the avoidance of doubt, if any financing referred to in this Section 6.4 is not obtained, the Purchaser will continue to be obligated to consummate the Arrangement, subject to and on the terms contemplated by this Agreement.

On July 27 I reported that:

Citi Investment Research cut its recommendation, citing growing risks to its financing.

Later in that post, I speculated:

I’ve thought the issue in the context of what a massive break-fee-loss would mean to Teachers, and come to the conclusion that I don’t know enough about the issue. It would seem to me reasonable that there might be provisions regarding financing in the consortium agreement, to the effect that, if the deal fails on financing, the loss would be borne by Teachers financial partners, Providence Equity Partners Inc. and Madison Dearborn Partners, LLC. After all, they’re the financial muscle for the deal! It may be that such a provision is why Mr. Lamoureux is so sanguine … but we will just have to sit back and wait and see! In the meantime, I highly doubt that I’ll be throwing chips down on that table!

The plot thickened on July 31:

there are musings that the USD 37.2-billion takeover of TXU is at risk, with the suddenly nervous financiers tempted to pay a billion bucks to get out of the deal. Observant readers will not that both amounts are oddly reminiscent of the BCE / Teachers’ agreement, but the musings are rebutted on another news service. Trial balloon? Chatter from clerks? Who knows? There would be a big reputational hit to take. 

On August 2, BCE announced:

that all necessary filings have now been made for regulatory approval of the proposed acquisition of BCE by an investor group led by Teachers’ Private Capital, the private investment arm of the Ontario Teachers’ Pension Plan, Providence Equity Partners Inc. and Madison Dearborn Partners, LLC. These include filings with Industry Canada, the Canadian Radio-television and Telecommunications Commission, the Canadian Competition Bureau, the U.S. Department of Justice and Federal Communications Commission and six U.S. states.

On August 3, I reported: 

Speaking of Telus, they released their quarterlies today, and noted:

TELUS in July continued its assessment of whether it should potentially make a competing offer for BCE. TELUS has concluded this assessment and it does not intend to submit a competing offer to acquire BCE.

On August 8, BCE announced:

that a special shareholder meeting will be held on Friday, September 21, 2007, at 9:30 a.m. in Montreal. At the special meeting, holders of common and preferred shares registered at the close of business on August 10, 2007 will be asked to vote on the privatization of BCE by, among others, Ontario Teachers’ Pension Plan Board and affiliates of Providence Equity Partners Inc. and Madison Dearborn Partners, LLP.

Which brings us, basically, to today, with speculation on other buy-outs, the common 9.1% below the take-over price and a press release from Teachers:

In response to media inquires, officials at Ontario Teachers’ Pension Plan and their partners Providence Equity Partners Inc. and Madison Dearborn Partners, LLC, stated today that they remain committed to the terms of the definitive agreement reached on June 30, under which the investment partners would acquire BCE. The transaction is subject to shareholder and regulatory approvals.

The press release has been picked up by Reuters and Bloomberg. Bloomberg also reports that

• Edward Jones & Co. has cut the BCE rating to “Sell” from “Hold”
• An analyst at Three Macs said BCE “has definitely become higher risk than it was even two weeks ago because of the transaction risk,”
• A National Bank Financial analyst said “I still think this deal has lower than average risk of breaking” and rates the shares “Sector Perform”

Bloomberg did not disclose long-term track records for any of these analysts.

What do I say? I say BCE Prefs are a crapshoot on credit. I don’t play craps with investment money.

BCE has the following preferred shares outstanding: BCE.PR.A, BCE.PR.C, BCE.PR.E, BCE.PR.F, BCE.PR.G, BCE.PR.H, BCE.PR.I, BCE.PR.R, BCE.PR.S, BCE.PR.T, BCE.PR.Y & BCE.PR.Z

BCE has announced:

BCE Inc. will, on September 1, 2007, continue to have Cumulative Redeemable First Preferred Shares, Series AA (“Series AA Preferred Shares”) outstanding if holders of at least 2.5 million of its Series AA Preferred Shares elect not to convert such shares into Cumulative Redeemable First Preferred Shares, Series AB by August 22, 2007. In such a case, as of September 1, 2007, the Series AA Preferred Shares will pay, on a quarterly basis, as and when declared by the Board of Directors of BCE Inc., a fixed cash dividend of $0.300000 based on an annual dividend rate of 4.800% for the five-year period beginning on September 1, 2007.

As previously discussed, the Teachers’ bid includes cancellation of BCE.PR.A (the fixed rate) for $25.76 and of BCE.PR.B (the ratchet rate) for $25.50.

BCE.PR.B does not currently exist; according to the prospectus the initial rate will be 80% of prime, ratcheted. If we assume that two dividends will be paid prior to cancellation and that this rate increases at the maximum speed of 4% per month and that prime continues to be 6.25%, then we arrive at an average rate of 90% of prime, which is 5.625%, which is dividends per share of about $0.70.

Two dividends on the “A” at 4.80% will come to $0.60.

Thus, if one were absolutely sure that the Teachers bid will take be consumated as advertised, one would stick with the BCE.PR.A at 4.80%.

I’m not convinced, though. I think there is a significant chance that the bid will not be completed as currently envisaged and that the preferred shares will continue to exist in some form or another at a reduced credit rating. Should this come to pass, a ratcheting floater will almost certainly be much more valuable than a 4.80% fixed rate to be reset/exchange in 2012. Given that the potential reward for keeping the BCE.PR.A issue is so low – only sixteen cents per share, net – I believe that the risk/reward profile makes conversion to BCE.PR.B the path of prudence.

Others may disagree!