For risk-takers only: Priszm Income Fund

The most troubled (but not formally bankrupt… yet!) company trading on the TSX is the Priszm Income Fund (TSX: QSR.UN), which operates fast food franchises. The fund owns 60% of a limited partnership that operates 432 restaurants (KFC, Taco Bell and Pizza Hut) across seven Canadian provinces. The other 40% is owned by a corporation controlled by the fund manager.

Unfortunately for the fund, they have substantial balance sheet issues. As of September 5, 2010, they have a $66 million loan that is secured by substantively all assets of the company, and this loan is due at December 31, 2010 (which was not paid). The company had $13.4 million in cash in early September, and cash through operations in the first 9 months of 2010 generated approximately $3.4 million. It should be noted the business is seasonal, with most of the revenues obtained in the third quarter (summer) season.

The company is trying to liquidate over half (232) of their restaurants, all located in BC and Ontario, for $46 million (link) but this deal has not closed yet. Even then, the company is not quite out of the woods in terms of their balance sheet situation.

Notably, the company has $30 million in unsecured convertible debentures outstanding that are due on June 30, 2012. The company has not paid interest on them at the end of December 31, 2010.

The debentures are trading at around 20 cents on the dollar, and have tanked over the past month as the solvency issue became very apparent:

This is a lesson for debenture investors that market valuations can be considerably divergent from the underlying truth – as early as the beginning of December, debentures were worth about 70 cents on the dollar – any investors at that point would have received a 70% haircut in valuation AND also the ignominy of paying the sellers 5 months of accrued interest!

It is also not quite clear even if the fund can realize $46 million in value out of the 232 franchises whether they will be able to avoid bankruptcy – they still have a considerable amount payable after this liquidation. Such a liquidation would occur on January 15, 2011 if approved by the buyer after they do their due diligence.

That said, it makes one wonder whether there is still value in the convertible debentures of Priszm. They are very cheap, but very cheap for a reason – even if the company can liquidate their franchises for an acceptable price, there is a stack of other payables that are due, possibly before or possibly jointly with unsecured debenture holders. Study up on your knowledge of the Bankruptcy and Insolvency Act! Suffice to say, this one would be for extreme risk-takers only.

Disclosure – No positions.