Regular readers will know of my interest in different types of securities like bonds, preference, hybrids, convertibles and so forth. As noted in previous posts, I wish there were more of them. Well structured and well priced alternate securities can offer investors a cracking deal especially in circumstances where downside is structurally limited (think WESN (now longer listed) and AFIG for example) and fundamentally limited with upside potential. Unfortunately there aren't many on offer (in Australia) and none really at a decent discount in this market.
But please don't take my word for it - just look at the doyen himself, Warren Buffett. A great example of an alternate investment he made is Goldman Sachs (GS). Back in 2008 Buffett bought US$5bn of GS 10% p.a. preferred stock which included warrants to purchase a further $5bn ordinary GS shares at at a strike price of $115 anytime up to five years from date of issue. So that gave him the right to buy 43.5m shares for $115 which based on the current price of US$212 would have been a profit of $4.2bn. Interestingly, the deal was amended in 2013 so Buffett ended up with 13m shares but didn't have to pay for them (now worth $2.8bn plus his preferred's). That's a great deal.
Apologies, I digress - back to the story.
One new stock that doesn't fit the bill of upside optionality, but is interesting nonetheless is KBCPA. KBC is issued by the mother-of-all magnets to the value community - Keybridge (KBC). KBC itself is a collection of all sorts of investments all over the world. Please note it is not the purpose of this post to explore KBC - that is a long story in itself. KBC has a market cap of $27.8m (17.5c). The new KBCPA were issued at $1 in June and there are 5m on issue.
KBCPA were actually issued to existing KBCPA shareholders as an in-specie (non-cash) distribution on a 1 for 36 basis. Why? There are a number of reasons. It provides additional funding in the future - i.e. issue more KCPA to help fund a project. This is smart - the notes are unsecured and provide debt without the banks placing restrictive debt covenants. More directly, the notes appear to have been a way to return some excess capital to shareholders without actually handing over any cash! Instead of KBC's cash going down, debt goes up. The effect to net equity is the same however they retain the cash to invest. And also quite smart is the new channel it creates to pay out franking credits. The notes are 7% fully franked meaning lots of franking credits for holders.
So on a grossed up basis, the yield is 10% p.a. which is really attractive in today's market. A 10% p.a. yield is roughly the same as the long term combination of growth and dividends from the stock market - so you can understand if investors interested is piqued (especially if you think KBC is pretty safe). Even as I write, a few have trade above the issue price.
For me, I want upside potential. Either through favourable conversion terms such as a fixed exercise price (see the Buffett deal) or a discount to the face value (in cases where the maturity term is fixed as is the case with KBCPA). Who knows, maybe the market will get really scared for some general reason or Nick Bolton stuffs something up and they get sold off well below face value. But for the time being these conditions are not present so it's a pass for me.
Kristian
Disclosure: no position in the above names
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