Market Commentary
Posted by drewmiller2 on June 10, 2009
Asset prices are rising. Investor sentiment is buoyant again. The dark days of early March are a distant memory. Companies are deleveraging, issuing records amount of new equity as risk appetite continues to increase. Government inspired reflation makes it feel like the go-go days of 2006.
On Friday, monthly non-farm payroll losses declined for the 4th month in a row fuelling hopes for a return of the consumer’s contribution to economic activity. Consequently, the yield on the 2 year Treasury jumped 34 basis points to 1.30%. The 10 year note’s yield hit a 6 month high of 3.84%. Interest rate futures now price in a fed funds rate of 0.5% by December and 2.0%. Markets are clearly signaling we have turned the corner.
The question we ask ourselves is what will the third act bring? Investors and issuers should equally appreciate the current heady time for central banks will shortly need to decelerate the priming of the monetary pump. That difficult orchestration requires walking a fine line of controlling price inflation while muted underlying global economic growth struggles with industrial over capacity and rising credit costs.
There is of course a rosy scenario with the US consumer gradually re-engaging over a period of years a surgically rising monetary policy sapping excess demand. Our gut tells us the real world will be a bit messier and unforeseen pitfalls wait on the horizon. As such, we recommend issuers raise capital while investor sentiment is healthy. Becoming aware of the unknown can change perception.
Transactions in Focus
Issuers continue to tap an equity investor universe with an apparent insatiable appetite. With equity prices continuing there dizzying ascent, companies are happy to fix their balance sheets and re-equitize. Investors seem happy to help companies pay off the banks and deleverage. We note that 51% of the $92bn in equity capital raised since March has been used to pay down debt, not exactly an application of capital that generates economic growth.
59 issuers raised 19.6bn last week as deal flow rebounded to prior levels after a holiday shortened week. Of particular note last week, the convert market saw a pickup in activity and generally saw strong pricing and upsized deals. With markets causing investor’s ears to pop, we assume we will see more convertible activity as these issues provide investors the downside protection of a bond, yet retain the upside through the equity exposure.
With the S&P 500 breaking through the 200 day moving average for the first time since late 2007, we wonder if additional funds will be re-allocated to equities, further driving the indices and equity issuance.
The Oil & Gas industry continues to see companies take advantage of rising sentiment and share prices. We expect more issuers will tap avail themselves of rising investor sentiment and the reflation trade.
Mariner Energy (NYSE:ME) addressed its balance sheet by amending its credit facility, selling $250m of senior notes, and selling $145m in equity. The equity placement represents 10% of the company’s equity and was sold in a two day marketed accelerated bookbuild. Shares were placed down 5.5% from initial announcement and ended the week essentially flat to offer. Proceeds are to repay debt. As seen in the credit facility amendment, the company has essentially used equity and proceeds from the note sale to reduce the bank’s exposure. The company’s senior secured revolving credit facility of $1.0B was amended to allow the company to issue up to $300M in additional unsecured debt. The Amendment also stipulated that upon closing of such a debt issuance, the borrowing base automatically reduces by $50M. The company is active in the Permian basin, Gulf of Mexico, and Gulf of Mexico Shelf.
InterOil Corporation (NYSE:IOC), an integrated energy company with operations in Papua New Guinea, raised $70m in a self placed registered direct. The shares we placed flat to the market and led to a 6.0% rally in the equity by week end. The placement of 5.6% of the company’s equity will help fund development of issuer’s Elk/Antelope gas and condensate fields, the development of a proposed liquefied natural gas facility in Papua New Guinea, potential acquisitions, and repayment of up to $9.0 million of its credit facility with the Overseas Private Investment Corporation.
In a move long anticipated by the markets, Cal Dive (NYSE:DVR) saw Helix Energy Solutions Group (NYSE:HLX) sell 20m shares at $8.50, a 4.7% discount to last sale, but down 15.8% from announcement. The stock opened below issue price the next day and traded poorly, ending the week down at $8.22. While the placement represented 21% of the shares outstanding, the significant sell off and poor pricing are typical of significant equity offerings in this market. Of particular note, DVR also bought $14m of stock directly from HLX. Assuming the over-allotment option is exercised in full, Helix’s percentage ownership in the company will be reduced from approximately 51% to approximately 25%. DVR will repurchase the shares with cash on hand. The company’s revolving credit facility permits the repurchase of up to $100M worth of shares of the company’s common stock.
Also tapping increasing investor sentiment for gas services companies, Union Drilling (NASDAQ:UDRL), sold $24.7m of equity versus a pre-deal market cap of $203m. The shares were offered down 10.2% from last sale. Proceeds will be used to repay indebtedness outstanding under the Company’s revolving credit facility. Of note for this transaction was in the market for a day and only saw the stock drop ~2%, notable for a micro cap company with average daily liquidity of approximately $1m. The stock ended the week flat to offer.
In addition to the E&P and services offerings, we also note the activity from the refiners. Western Refining (NYSE:WNR) raised $380m in a common convert placement, in which the convert was upsized to $200mk from $100m. All proceeds are to pay down debt. While the 5 year senior convert priced 5.75% up 20%, the common deal saw the share price fall 38% from announcement to offer. The stock fell another 5.2% post offer. Proceeds are to pay down the company’s term loan.
Valero Energy (NYSE:VLO), the $10bn refiner, sold $720m in equity at a 19.6% discount from announcement. The company sold the stock on the back of providing uninspiring Q2 guidance on EPS of $0.50. Reuters prior estimate was $0.74. The company’s Q2 2009 results have been adversely affected by extended downtime at its Delaware City and McKee refineries and by the continuation of weak sour crude oil discounts and lower diesel margins.
We note the issuance from the following Industrial companies, MasTec (NYSE:MTZ), Exterran Holdings (NYSE:EXH), and Steel Dynamics (NASDAQ:STLD)
MasTec (NYSE:MTZ), a $1.0bn market capitalization specialty contractor who builds, installs, and maintains utility, energy, and communications infrastructure, effectively sold $155m via a double barrel common convert to help refinance an acquisition. The senior unsecured convert raised the company $100m, of which $55m was to refinance an 8% convertible note to Woznek Construction, who was the seller of 5.5m shares or $54m of MTZ stock in bought deal. Woznek Construction, a builder of wind farms and natural gas processing facilities was bought Woznek last October for $171m in cash and an assumption of $15m debt. The convert carried a slim 4% coupon and converted up 30%. The bought deal was bought down 12.0% and re-offered down 9.3%.
These financings are of particular note, as MasTec had to change its original $215m all cash offer to an offer comprised of $50m cash, 7.5m shares of MTZ stock, a $55m convertible note, and a two year earn out. One would imagine that the financing was simply not there last fall and the company was able to push through the modified deal structure. Woznek didn’t waste any time, in selling out a majority of the equity as the lock-up expired on June 3rd. Barron’s over the weekend highlighted the company on it’s affordable relative valuation at 10.5x 2010 estimated EPS, vs. more than 20x for competitors such as Quanta Services (NYSE:PWR) and Tetra Tech (NASDAQ:TTEK). The removal of the overhang could be a catalyst.
Exterran Holdings (NYSE:EXH), the builder of natural gas compressors, also tapped convertible buyers, selling an upsized $325m 4.25% senior unsecured 5 year notes which convert up 24%. Prior to launching the offering the company announced the seizure of assets by PDVSA in Venezuela that represented 5% of annual revenue last year. Proceeds will be used to pay down borrowings under the company’s revolving credit facility and its asset-backed securitization facility. Investors supported the hefty issue for the $1.2bn company and only drove the share price down 2% by week’s end.
Minimill steel operator, Steel Dynamics (NASDAQ:STLD), makes structural steel and steel bar products and is a significant recycler. This past week it cuts its dividend 25%, then proceeded to sell 27m shares at $13.50, a 13.4% discount from announcement, to raise $365m. Along with an upsized $250m convert, the raises represented 25% of the existing market cap, which would explain the steep discount. The convert carried a 5.125% coupon and a 30% conversion premium. The $615m in proceeds are to repay term loan borrowings under its existing senior secured credit facility.
The company’s roughly $2.5bn in debt has reportedly been an overhang on the stock. With EBITDA expected to fall to approximately $300m in 2009 versus $1.0bn in 2008, we understand why. This financing allowed Standard & Poors to remove the company from Credit-Watch and affirmed the company’s BB+ rating, with a negative outlook. Investors cheered the offering, driving the stock up 9.9% by week’s end.
