PAC's - Principal Amortizing Converts - 0.90% Coupon, 150% Premium, 33-Year Callable Convertibles
39 Pages Posted: 23 Jul 2016
Date Written: July 22, 2016
A PAC (Principal Amortizing Convertible) is a financial instrument designed to be attractive to any substantially undervalued company considering issuance of a convertible. Substantially undervalued firms will find PAC’s less costly than other types of convertibles or straight equity. A PAC’s coupon, maturity, conversion and call premiums are all highly competitive with conventional convertibles, and PAC’s mitigate the two risks underlying every convertible offering: 1) upon conversion, selling equity at too low a price (PAC’s have a high, initial conversion price), and 2) absent conversion, the need for refinancing (PAC’s are fully amortized at maturity).
A conservative representation of indicative terms on PAC issuances includes:
A strong company able today to issue a 1.90% coupon, 7-year bond could instead issue an 0.90% coupon, 33-year PAC initially convertible at a 150% premium to spot and initially callable at a 12% premium to the conversion price.
A mid-tier company able today to issue a 4.00% coupon, 7-year bond could instead issue a 1.35% coupon, 28-year PAC initially convertible at a 110% premium to spot and initially callable at a 17% premium to the conversion price.
A more speculative company able today to issue a 6.00% coupon, 7-year bond could instead issue a 2.00% coupon, 22-year PAC initially convertible at a 60% premium to spot and initially callable at a 22% premium to the conversion price.
PAC’s are priced at par at issuance. Because PAC’s offer investors tax advantages, terms ultimately depend upon market discovery including, in particular, the mix of taxable vs. nontaxable purchasers as well as other conditions affecting receptivity such as volatility, perceived equity appreciation prospects, company specific risk premiums as a function of time, and pricing of competing instruments.
This report reviews convertibles and presents the structure of PAC’s. Of course, the best action for any substantially undervalued company is to issue Cash xPRT’s™ (if current funding is required) or to execute a Cashless Buyback™ (if current funding is not required). But that is a story for another day (see http://www.ssrn.com/abstract=2786777).
Keywords: PAC, principal amortizing convertible, LYON, mandatory, convertible, IPXL, Cash xPRT, cashless buyback
JEL Classification: B26, G10, G30, G32
Suggested Citation: Suggested Citation