Bombardier ran out of money

There is no way to explain Bombardier selling out a 50.01% stake of its C-series jet (leaving it with a minority 31% stake, with the Government of Quebec with a 19% interest) to Airbus for zero other than the simple fact that they ran out of money. They couldn’t keep things going for a few more years while all of the trade dispute issues played out.

With airbus fully incentivized to starting marketing the C-Series (and acquiring most of any industrial secrets contained within the aircraft design), they will be better positioned than Bombardier was with respect to the upcoming Boeing trade dispute (which will be a multi-year bloody battle, especially since Boeing has the full support of the US Government). One question internally for Airbus is how they will reconcile selling Airbus 319’s instead of CS300’s with this arrangement. Or are they just doing this to shut down the aircraft entirely?

The key paragraph is:

At closing, there will be no cash contribution by any of the partners, nor will CSALP assume any financial debt. It also contemplates that Bombardier will continue with its current funding plan of CSALP and will fund, if required, the cash shortfalls of CSALP during the first year following the closing up to a maximum amount of US$350 million, and during the second and third years following the closing up to a maximum aggregate amount of US$350 million over both years, in consideration for non-voting participating shares of CSALP with cumulative annual dividends of 2%, with any excess shortfall during such periods to be shared proportionately amongst Class A shareholders.

So Bombardier’s downside is US$700 million over the next couple years.

Long term, assuming this isn’t an agreement by Airbus to effectively shut down the C-series program, this should bode well for the C-Series program, which should remain in Canada and will have a more powerful marketing partner, but this is a negative for any upside to Bombardier – the promise of a wildly profitable commercial jet program will have now shrunk down to a 31% stake.

If I was going to use an analogy here, it is “Would you like 31% of something, or 100% of nothing?”. Bombardier seems to have taken the first option.

Bombardier has plenty of other cash-positive business units (Transportation and smaller-scale aircraft) that will be bringing in cash flows, but most of the upside in the business (via the promise of significant C-Series jet revenues) is gone.

I continue to hold a much-diminished stake of BBD.PR.C and BBD.PR.D shares, of which I am tepid on valuation and still do not see any imminent (I added in this word a couple hours after making this post!) dividend risk despite this deal.

Yellow Media – Senior Secured notes debt re-financing

Yellow Media (TSX: Y) managed to refinance its 9.25% senior secured notes due November 30, 2018 to November 1, 2022. According to the press release, the new notes are priced at 98 cents on the dollar and will give out a 10% coupon. This works out to roughly a 10.6% effective yield (assuming payout at maturity of par value).

The original senior secured notes had a payment provision where the company had give out a large percentage of its free cash flow to redeem the notes at par. It is not known whether that covenant will be in place for the new notes issuance.

My question is – why are the unsecured debentures (TSX: YPG.DB) (due November 30, 2022 and about $107 million principal value) trading at a value that is comparable to the 10.6% yield of the newly issued senior secured notes? The conversion option at $19.07/share is over double out-of-the-money and these holders don’t have security. It would seem to me that the unsecured debentures should be trading lower.

Genworth MI buying shares again

Genworth MI (TSX: MIC) filed with SEDI last week that they executed a share buyback in the month of August, purchasing approximately 913,000 shares at roughly CAD$36/share. This is nearly 1% of their shares outstanding. In light of the fact that they were making rumblings in filings a year ago with respect to the adverse consequences of increasing capital requirements with respect to the OSFI policy changes, this is most definitely a signal that they are now in an excess capital situation. The share buyback is at a discount of 13% to book value, so management cannot be accused of wasting value with this purchase (a rare characteristic that I very rarely seem managements of other companies perform when they conduct share buybacks).

Finally, Genworth MI traditionally increases its quarterly dividend rate in the third quarter announcement or announces a special dividend. The current regular quarterly dividend is likely to increase from 44 cents a share to around 47 or 48 cents. Management has a good track record of prioritizing buybacks when the share price is depressed to book or giving out special dividends when the share price is relatively high – I do not view a special dividend as being likely. Although my Genworth MI position is smaller than it used to be in the portfolio, it is a significant equity holding of mine and I see no reason to sell at this juncture, in absence of other opportunities.

Toys R’ Us – Looking back

Earlier in April, I said I was going to avoid Toys R’ Us unsecured debt. It was trading around 97 cents on the dollar at that time.

I looked at my quote screen today for lesser-attention securities and noticed they (October 2018 unsecured debt) was trading at around 56 cents on the dollar on reports that on September 6th, they decided to engage a bankruptcy firm to explore options. The bonds went down from 97 cents to 78 cents in a day, and they’ve straight-lined to their present trading price (53 cents and dropping as I write this) a week later.

I ask myself from the perspective of credit analysis – is there any hope for unsecured holders? The easy answer here is going to be no – I count at least $3.5 billion that is either “secured” or asset/real estate based loans out of a total of $5.2 billion in debt. Although their credit facility is about half-tapped (i.e. they’ve got time to structure a restructuring), I find it unlikely that they’re going to wait around until October 2018 and pay off that particular unsecured issue. The advantage of going into Chapter 11 prematurely is simple – they can offer the unsecured creditors (lease landlords, etc.) an unfavourable “take it or leave it” type deal (see yesterday’s post on Seadrill), be able to shed their high-cost items (including conversion of their unsecured debt into a token amount of equity) and move on with life.

There is one reason, however, why this may not happen:

Although Toys R’ Us equity is not traded on an exchange, it is a publicly reporting entity. Bain Capital owns 32.5% of the corporation. Are they willing to give up this equity? I’m guessing their own private valuation of the entire firm is small in relation to the amount of debt that would have to be paid back (if Bain wishes to keep control).

Also if Bain controls most of the secured debt, their interests lie with Chapter 11 instead of keeping control of the firm (via their 32.5% equity stake).

I find this one difficult to judge, but I would weigh on the side of a restructuring that will involve a material impairment of value to unsecured bondholders. There’s just simply too much secured debt and I do not think they will hold Chapter 11 back a year and a month just to pay the US$208 million that’s due with this specific obligation (there are too many others that will be due as well). This is especially true considering the overall entity is not producing a lot of cash.

All in all, I’m glad I avoided this instead of reaching for yield and getting burnt (which would be the only explanation why somebody would have invested in Toys R’ Us unsecured debt in the first place).