Tag: AG

Arctic Glacier (TSX: AG.UN) is in default of its second-lien loans, which means its first line creditors will likely come knocking.

On August 2, 2011, the company invoked a conversion to equity clause upon the maturity of its convertible debentures. The company issued 311 million units in exchange for $90 million face value of convertible debt, leaving those debtholders with trust units at a rate of 29 cents a pop. Miraculously, the units managed to stay at the 20 cent range for a couple days before plummeting to the 10 cent level as investors dumped units.

The company’s financial troubles continue as they still have a significant debt load from other creditors. It appears quite imminent that the unitholders, having faced an approximate 90% dilution, will finally be wiped out at the end of this process. After subtracting the debentures that were converted, the company has about $190 million in debt and annual cash flows have declined significantly to the point where they can no longer afford this leverage.

A couple weeks after Arctic Glacier (TSX: AG.UN) announced it was diluting existing shareholders roughly 90% by converting $90M of convertible debentures into equity on a company with a (then) $14M market capitalization, they now announced that because of cold weather, sales in the second quarter were low enough to breach their loan covenants for their credit facility.

The company is laden with debt – $90M of convertible debentures outstanding (and will be cashed to equity at the end of July), and approximately $194M in term loans that are first and second-ranking.

I will anecdotally state that to my vantage point in southwestern British Columbia, that this spring has been the coldest I have felt in a long time. While I do not need to purchase ice by virtue of my ownership of a freezer, I have not had the urge to do so for outdoor recreation either, and suspect that many other people are in the same boat. Fortunately for the company, it does business outside of southwestern British Columbia.

Even when you wipe out the convertible debentures and convert them into equity, the term loan leaves a crushing amount of debt for the company given their operations. Their highly seasonal nature makes cash flows lumpy so you have to look at the annual statements to get a good comparison. Operationally the company has seen its cash flows decline significantly over the past few years and it is no surprise that the common shares are trading very unfavourably – 28 cents currently.

This is clearly a distressed situation and the term loan lenders can choose to be very unfriendly to the company. What is likely to happen is that the term lenders will receive some equity stake in the company in exchange for an extension or easement of the loan covenants, coupled with a higher interest bite. Equity investors should be cautious in doing the appropriate calculations to see if there what margin of error they have.

The lesson to be learned here is that when you invest in companies that are heavily capitalized with debt rather than equity, you will run into these sorts of problems eventually if there is any variability in the company’s operations year to year. Investing in the equity of such entities is a high risk proposition and such investment should be compensated appropriately with a high potential reward if things go right.

I have no position in Arctic Glacier, nor do I intend to start any.