Holloway Lodging REIT – debt conversion

Following up from my previous post on Holloway Lodging’s (TSX: HLR.UN) debt situation, I notice on December 22, 2011 they gave a conversion notice of their debentures to units:

Holloway Lodging Real Estate Investment Trust (TSX: HLR.UN HLR.DB.A) (“Holloway” or the “REIT”) announces that it has today given notice to the holders (the “Debentureholders”) of its 6.5% convertible unsecured subordinated debentures (the “Debentures”) that it will redeem the Debentures in full on January 23, 2012 and that it will satisfy the redemption price of the Debentures on the redemption date by issuing trust units (“Units”) of the REIT in lieu of cash, in accordance with the terms of the trust indenture for the Debentures (the “Indenture”). Any accrued and unpaid interest on the Debentures will be paid in cash on the redemption date.

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The number of Units to be issued to Debentureholders will be determined by dividing the aggregate principal amount of Debentures outstanding by 95% of the weighted average trading price per Unit for the 20 consecutive trading days ending on the fifth trading day preceding the redemption date (the “Current Market Price”). Based on the redemption date of January 23, 2012, the 20-trading day period commenced on and included December 15, 2011 and will end on and include January 16, 2012.

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Holloway also announces that it will not make the interest payment on its Debentures when such payment is due on December 31, 2011. Holloway intends to make such payment by January 13, 2012, as permitted by the terms of the Indenture.

This is a significant development for unitholders in that the roughly $51.8M face value of debentures outstanding (at least as reported by the TSX; this may be slightly lower due to buybacks) will be converted at the rate of approximately 7-8 cents per share, at least given existing trading patterns to date. Unit prices cratered from 20 cents to as low as 4 cents upon the announcement (currently trading at 10 cents), while debenture prices dropped from 58 cents to as low as 40 cents and is currently at 53 cents on the dollar.

Assuming an 8 cent per unit conversion price, this would mean dilution of about 94% for existing unitholders. Somebody holding $1,000 face value of debentures would receive 12,500 units, implying a unit price of about 4.25 cents post-conversion. The remaining entity will have about 670 million units outstanding and at 4.25 cents per unit it would imply a market capitalization of about 28 million.

Using the 2010 cash flow statement as a very blunt proxy for future performance, the entity without the convertible debentures will be able to pull in about $5.9 million in operating cash flow, which would put it on sounder financial footing. It could suggest that the post-conversion trading price of the units will be around 7-8 cents.

Finally, the company has decided to consolidate the remainder of its non-mortgage debt on the chairman’s company Geosam:

Holloway also announces that it has entered into a second amendment to its credit agreement dated as of June 15, 2011 among Holloway, Geosam Capital Inc. (“Geosam”), as administrative agent, and Geosam, together with such other persons from time to time party to the credit agreement, as lenders, (the “Credit Agreement”) to increase the amount of funds available for drawdown by $3.6mn for certain limited purposes. Holloway has increased the amount outstanding under the Credit Agreement by $1.8mn in order to purchase from the holders of its interest-bearing promissory notes approximately $2.8mn of such notes, representing all of Holloway’s interest-bearing promissory notes outstanding.

This is presumably linked to the resignation of the CEO (Squires) that lasted in the company longer than I expected him to after the takeover of the company by George Aryoman and Geosam.

My conclusion here is that the market is valuing the debentures and units as slightly expensive, but it is within an order of magnitude of a fair valuation. Finally, my continuing thesis is that the only entity that will make any money from Holloway will be Aryoman and Geosam by virtue of their control of the company and the secured credit facility which will continue to hive off interest income from Holloway unitholders. This will continue as the assets are stripped and sold from the trust.

In other words, this is a fun one to watch, but not to invest in. I feel fortunate to dump my debentures at the price that I got for them (roughly 60-65 cents) and get out of dodge. If unit prices go down to the 4 cent level again, the trust may be worth putting a few pennies in, but this would be one of those typical “pick up the cigar butt off the street for one last puff” type value plays.

Back from holidays

I am back from my 6-week vacation outside the country (where the weather was much, much warmer) and will hopefully get back into mental shape to post about some projections for 2012, the performance in 2011 (not good!) and other such worldly things.

One thing I do know, however, is that unwinding from an extended stay out of the country takes a long time, and recovering from a 16 hour time change is not pleasant!

Portfolio autopilot and lengthy vacations

After this post, it is quite likely I will not be posting again on this site until 2012. The reason is simple: I am taking an extended vacation. I will generally not be in front of a computer during most of this time!

I won’t even have access to my portfolio, but at 72% cash, it is unlikely to cause any heartburn in the event that the European Union fiscally has a true blow-up and takes down the whole financial system in the process.

I do have some positions in companies that I have programmed a “trading autopilot”; these transactions will occur automatically given a set of conditions, both time and price. Interactive Brokers in this respect is quite friendly.

Have a Merry Christmas and Happy New Year!

Reviewing my predictions for 2011

Reviewing my predictions for 2011 (at the end of the 2010 annual report), I had the following predictions:

Predictions for 2011

Take these predictions with a grain of salt:

* The US Federal Reserve raises the short term rate by the end of the year. Thus, it follows that:
– The US Dollar will rise relative to the Canadian Dollar in 2011 (close of 2010: 0.9945 USD = 1 CAD).
– Spot Gold ends lower at the end of 2011 than the beginning of 2011 (close of 2010: US$1421/Oz).

* An equal-weighted basket of the five big Canadian banks (BMO, BNS, CM, RY, TD), purchased at the December 31, 2010 closing price, will underperform a 1-year CAD treasury bill yielding 1.4% on December 31, 2010. (NOTE: dividends and interest are not reinvested in this prediction).

* My unconventional prediction for 2011 is that US cash will outperform the S&P/TSX Composite Index (link) starting February 28, 2011.

All-in-all, not bad. While the federal reserve did not raise short-term interest rates, they did conduct “operation twist” (selling short-term maturities and buying long term ones) which did raise short term rates (e.g. 3-month LIBOR went from 0.3% to 0.48% currently). The US dollar is about 2% stronger relative to the CAD currently; while spot gold is approximately 20% higher than at the beginning of the year.

Currently an equal-weighted basket of the five big Canadian banks will have lost you money – Year-to-date and adding in dividends, BMO is up 4%; BNS is down 11%; CM is down 6%; RY is down 12%; and TD is down 1%. Right now the banks will have earned you a 5% loss; a 6% spread over a T-Bill.

Finally, the S&P/TSX has performed at -15% since February 28, 2010. The US dollar has gained 6% since February 28, 2010 over the Canadian dollar.

There is about a month and a half left to the end of the year, so these results will likely change.

Dangers of buying callable debentures above par value

Rogers Sugar (TSX: RSI) announced at the end of trading they had a bought offering of debentures, and calling in their existing series of debentures (TSX: RSI.DB.B) effective around December 19, 2011.

Holders of RSI.DB.B will be receiving a nasty shock tomorrow because of this call announcement – they were trading around 104 before this happened, but now the debentures will only be redeemed for 100. Any recent buyers of the debentures will take a bit of a loss. The debentures were trading slightly above par because of the conversion feature embedded within them – they are convertible at $5.10 per share and with the market price recently at $5.14, it is possible there may be further conversions. The debentures will trade at 100 plus the embedded value of a call option that expires on December 19, 2011.

The deal itself is very good for Rogers Sugar – they have extended the term structure of their debentures to April 2017 and December 2018, done so at a slightly lower coupon rate, and an increased conversion price ($6.50 and $7.20 per share, respectively). Overall, Rogers Sugar has performed excellent in my portfolio and I continue to hold a position in the equity, albeit the equity is in my fair value range. Although the investment has been about as exciting as watching paint dry, they have performed solidly.