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Convertible

Bonds
with adjustable conversion pricing
Life or Death
June 2016

acpasia

Private and Confidential

Background
ACP Asia has advised several public companies as to options for raising capital which can be
classified as challenging for companies with a market capitalization of less than $2 billion.
KKRs Henry Kravis summarized the global issue for SMEs in a recent interview offering,
Smaller and midsize companies are telling us, I dont have the banks covering me
anymore. The banks today are pulling away from a lot of these companies, because the
capital charges are so high. Theres not enough margin in it for them.
This leads companies back to the equity markets. However, the equity markets tend to look
less favorably on companies having trouble accessing credit and not surprisingly valuations
take a hit as a result. This forces the capital markets version of a prisoners dilemma. Do a
placement at a less than favorable dilution to current shareholders or borrow at high teens or
via way out money CB and hope it all works out.
ACP believes there is another option by modernizing a structured product that has a
checkered history. But the historical issues with this structured product can be structured
away so as to protect shareholders and give Companys a material better option. And
utilization does not a distressed situation as a properly structured product can be useful
source on ongoing capital thus creating pricing tension for other forms of capital.
Regain control over your balance sheet.

acpasia

Private and Confidential

Assumptions Bread False Flags


Redeemable Convertible Notes, Convertible Bonds with Warrants, Exchangeable
Loan Note, or what ever new or old name being used to describe a short term
structured product intended to be converted into shares of a ListCo.
We all know the history

But do you know the current facts

DEATH SPIRAL

Incremental Capital

Back Door to gain control

Floor pricing

Last Chance Capital

Redemption rights

acpasia

Greater of conversion pricing


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Private and Confidential

Bad Actor Structural Elements


Stock Borrow

Indicate intention of investor to short the stock prior to conversion price setting

Sizeable Upfront
Fees

Reflective of deals where each partys interest are not aligned

Initial funding covers mostly fees thus not creating value for Company

Slight of hand detached warrants cash in the cheap warrants for quick gain or
retain cheap warrants to acquire oversized portion of Listco.

Taken together with stock borrow it is probable that stock will be under pressure

Can create risk of feeding into downward pressure

typically means conversion will take place no matter the market conditions.

Mandatory
Warrants

Short look back


period

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Be careful not to paint with a broad brush


Not all structures have the same risk
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Private and Confidential

A death spiral Needs Structure that is always in the money


So how can structure address dilution risk (eg death spiral). It cannot be a
guessing game.
Structural Point #1 - Greater of Conversion Pricing
The Bad Actor Way
30 - 60 day look back using the lowest
single day or lowest couple of days
80% discount to that look back price

Subscriber is totally indifferent to


actual stock performance

Will always be in the money

Could be out of money if warrants


given which are then used to offset
note loses thus retaining indifference

acpasia

Greater of Two Formulas


90% of 3 consecutive days within last 20 days
80% of last 3 day VWAP

Conversion price materially tracks ListCo

Discount customary to an equity placement

Not always in the money thus not feeding a death


spiral

Private and Confidential

Structural Point #1 Analysis of a ListCo Do Your Homework

18 month look back analysis

Daily closing price and daily VWAP for purposes of formula use
Daily Close vs Daily VWAP
Daily Volume
5.000

6000000

4.500
5000000
4.000

3.500
4000000
3.000

2.500

3000000

2.000
2000000
1.500

1.000
1000000
0.500

2-Jan-15

acpasia

0
2-Feb-15

2-Mar-15

2-Apr-15

2-May-15

2-Jun-15

2-Jul-15

2-Aug-15
Volume

2-Sep-15

2-Oct-15

Close

2-Nov-15

2-Dec-15

2-Jan-16

2-Feb-16

2-Mar-16

2-Apr-16

2-May-16

VWAP bar

Private and Confidential

Structural Point #1 Conversion Price for Each Formula

Using historical data, what would have been the conversion price on any one day

Two formulas so two lines representing the daily conversion price for each

The highest price of these two formulas is what would have been used as the conversion price on that day
90% of lowest 3 day average VWAP over last 15 days vs
80% of last 3 day average VWAP
4

3.5

Major upward move means


Shorter term formula will
prevail this protecting
shareholders from over
dilution during such periods

2.5

1.5

0.5

0
2-Jan-15

acpasia

During flat stock


performance the 20 day look
back is higher. The Shorter
better represents typical
equity placement pricing
2-Feb-15

2-Mar-15

2-Apr-15

2-May-15

2-Jun-15

2-Jul-15

Longer formula is greatest


during down cycles
2-Aug-15

2-Sep-15

90% of lowest 3 Days VWAP in last 15 days

2-Oct-15

2-Nov-15

2-Dec-15

80% of average Last 3 Day VWAP

2-Jan-16

2-Feb-16

2-Mar-16

2-Apr-16

2-May-16

Private and Confidential

Structural Point #1 Daily Close versus Greater of Conversion Price

Important to note that there will not be a conversion event every day. This is simply an illustration of conversion price available on a
day relative to price performance. But one cannot time the market

There may be divesting of shares already converted on any given day that is exposed to pricing changes as those shares have
already been converted at a price, but conversion itself will more incremental

Stock moves down faster


than conversion price

Movement down results in


at the money conversion
pricing which means no
conversions = no feeding a
death spiral

Daily Close vs Conversion Formula

4.5

3.5

2.5

Prices moves up and


conversion price moves
up thus creating
opportunity for lowering
cost of capital

1.5

0.5

0
2-Jan-15

acpasia

2-Feb-15

2-Mar-15

2-Apr-15

2-May-15

2-Jun-15

2-Jul-15

2-Aug-15
Close

2-Sep-15

2-Oct-15

2-Nov-15

Conversion using 'greater of'

Big move up but no


egregious returns for
Subscriber or excessive
dilution to shareholders

2-Dec-15

2-Jan-16

2-Feb-16

2-Mar-16

2-Apr-16

2-May-16

Private and Confidential

Structural Point #1 Implied Percentage Discount


Consistently within band thus proving thesis that product is similar to equity placement, if not better
Traditional CB that may ultimately be out of the money thus creating default risk.
Percentage
Conversion Price available on a day relative to that day's VWAP
160%

140%

120%

100%

80%

60%

40%

20%

0%
2-Jan-15

acpasia

2-Feb-15

2-Mar-15

2-Apr-15

2-May-15

2-Jun-15

2-Jul-15

2-Aug-15

2-Sep-15

2-Oct-15

2-Nov-15

2-Dec-15

2-Jan-16

2-Feb-16

2-Mar-16

2-Apr-16

2-May-16

Implied discount on that day

Private and Confidential

A death spiral Needs Structure That Can Never Be Stopped


If Issuer has no control over capital issuance that may create unexpected dilution
then that risk grows materially
Structural Point #2 Stop the Madness Clause Option 1
The Bad Actor Way

Prevent New Notes from being Issued

Once the transaction begins there are


very few ways Issuer can prevent more
notes from being issued no matter the
stock price

Set a floor price below which the Issuer can stop new
convertible notes from being issued at all

When combined with a friendly


conversion price mechanism that is
always in the money then let the
Death Spiral begin
Out of control process thus
encouraging shareholders to sell

acpasia

80% look back at time first tranche of capital is made

Does what it says

A material move down from when deal started the


Issuer can simply decide the capital is too
expensive and stop issuing notes

Better than large convert as there is materially less


default risk on Issuer
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Private and Confidential

Simulation: Floor Analysis


The Floor is set at start of each main Tranche and survives until all sub-tranches in that Tranche are
drawn down.
Example: if floor had been set at any time during the labeled Period A then all sub-tranche drawdown
notices during Period B would be at the discretion of Issuer.
Impact of Floor Pricing
5

4.5

Period B

3.5

2.5

1.5

Period A

0.5

0
2-Jan-15

2-Feb-15

2-Mar-15

2-Apr-15

2-May-15

2-Jun-15

2-Jul-15

2-Aug-15
Close

acpasia

2-Sep-15

2-Oct-15

2-Nov-15

2-Dec-15

2-Jan-16

2-Feb-16

2-Mar-16

2-Apr-16

2-May-16

Implied Floor for entire Tranche

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Private and Confidential

A death spiral Needs Structure That Can Never Be Stopped


At end of the day, it comes down to play between shares used for purposes of financing
and the capital raised
Structural Point #3 Stop the Madness Clause Option 2

The Bad Actor Way


Again, program can run unabated
concerned more about subscribers
profits than shareholder impact

Prevent New Notes from being Issued


Cap total number of shares to issued
Recall that the capital is issued incrementally

One Time Convert Way

If the convert has pricing resets then


shareholders get totally destroyed in a
down cycle as it acts like a make
whole provision

Capping discount does not solve the


problem as the notes will not convert
once cap it reached and is now
replaced with credit risk that can bring
down the company

acpasia

May result in less capital raised than originally


planned BUT shareholders have been protected
against over dilution thus allowing for reassessment
of options

Ability to anticipate when approaching share cap


thus nearly eliminating any residual credit risk

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Private and Confidential

Historical Issues Can Be Structured Away

Structured Product

Manage Dilution
Risk

Aligned Interest

Manage Leverage

acpasia

Protect shareholders and offer company regular access to capital

Incremental conversions 'pebbles make small ripple where a large


rock creates waves' can provide lower cost of capital over time

allow company to pace process and stop process during


periods of weak stock performance

Depending on liquidity, tighter conversion pricing mechanics

No warrants to juice return or to become indifferent to price

Tighter conversion pricing and floor mechanisms

Incremental capital means less risk of getting caught with


sizeable debt position if notes are out of the money

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Private and Confidential

Execution Do Not Be Disruptive

Stock moved in lock step with Index


RCN provided material capital in a time all other forms of capital markets were closed

Liquidity has materially improved thus creating more options

Notice the lack of disruptive behavior typical of Bad Actors


Malaysian Listco"PW"

Malaysian Listco "PW"

0.3

0.25
160,000,000

0.25

160,000,000

140,000,000

140,000,000

0.2

120,000,000

120,000,000

0.2
0.15

80,000,000
0.1

60,000,000

0.1

60,000,000

40,000,000

40,000,000
0.05

0.05
20,000,000

0
2-Jan-14

2-Feb-14

2-Mar-14

2-Apr-14

2-May-14

2-Jun-14

2-Jul-14

2-Aug-14

2-Sep-14

2-Oct-14

2-Nov-14

2-Dec-14

0
2-Jan-15

20,000,000

0
2-Jan-15

0
2-Feb-15 2-Mar-15

Date

Faster execution
through tranches as
market
acp
asia moves up

2-Apr-15 2-May-15

2-Jun-15

2-Jul-15

2-Aug-15

2-Sep-15 2-Oct-15

2-Nov-15 2-Dec-15

2-Jan-16

2-Feb-16

Date

Slower execution
through tranches as
market moves down

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Volume

80,000,000

100,000,000

Price

0.15

Volume

Price

100,000,000

Private and Confidential

Execution Do Not Be Disruptive

Chart speaks for itself. Many tranches; stock price moved side-ways and up

Message : Not all structures are Death Spirals and not all Subscribers are Bad Actors
Malaysian Listco "C"
0.7
160,000,000

0.6
140,000,000

0.5

120,000,000

Price

80,000,000

Volume

100,000,000

0.4

0.3
60,000,000
0.2
40,000,000

0.1

0
1-Oct-13

20,000,000

0
1-Nov-13

1-Dec-13

1-Jan-14

1-Feb-14

1-Mar-14

1-Apr-14

1-May-14

1-Jun-14

1-Jul-14

1-Aug-14

1-Sep-14

1-Oct-14

1-Nov-14

Date

acpasia

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Private and Confidential

Conclusion
In our experience nearly all matters of financing can be structured to address specific risks
that give rise to bad actors. The two decades old adjustable convertible debt product has
been used and abused by the market in the past. We would consider these older structures
as naked. They had virtually no mechanisms in place to protect against unanticipated
dilution events.
We firmly believe there is an opportunity to revisit the value of a properly structured
adjustable convertible note as a means by which a company can incrementally raise capital
efficiently and with down side protection.
We believe there is a platform for real capital partners in the market place for SMEs.

acpasia

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