NetApp falls outright, flat on hedge; Allergan comes in slightly; KV Pharma extends gains

By Rebecca Melvin

New York, Feb. 17 - NetApp Inc.'s convertibles sank outright but were little changed on a hedged basis on Thursday after the Sunnyvale, Calif.-based data-storage-equipment maker posted a weaker-than-expected profit outlook along with its decent third-quarter report.

"I think people were disappointed that it didn't do better [on hedge]," a convertibles sellsider said of NetApp.

Allergan Inc. came in slightly in active trade, with the underlying shares higher by about 80 cents.

Avis Budget Group Inc. saw both its bonds and stock slightly higher after strong earnings. The Parsippany, N.J.-based car rental company's 3.5% convertibles due 2014 traded at 127.5 versus an underlying share price of $16.50, compared to Wednesday's 123.5 versus shares at $15.65, a New York-based sellside desk analyst said.

KV Pharmaceuticals Inc.'s convertibles edged up a little as its underlying shares continued to push higher. The underlying shares have gone to Thursday's close of $8.58, compared to $1.51 on Feb. 1, buoyed by optimism over drug approval news, a New York-based sellside trader said.

Western Refining Inc.'s equity-sensitive convertibles also extended gains as the underlying shares of the El Paso, Texas-based independent oil refiner pushed up another 40 cents amid a bit of favorable ratings news.

Dahlman Rose initiated coverage on Western Refining on Thursday and RBC Capital Markets upgraded the shares to "outperform" from "underperform" on Wednesday.

The convertible bond market has had the feel of "back to the salt mines," particularly in the past several days, however, market players said.

"It's difficult to do stuff," a New York-based sellsider said of Thursday's session. "There were some names flying around in the morning like Network Appliances; and, in the afternoon, there were a couple of different names, but people found it very difficult to get anything done."

Others concurred, listing a lack of new issuance - this week has been particularly light with only a single new deal so far - high-priced paper, and a continuing brisk rate of calls, maturities and tenders that is sucking supply out of the space.

"It's like a swimming pool that keeps getting smaller, but there are the same number of swimmers, so we keep bumping up against each other," a convertibles sellsider said.

NetApp sinks outright

NetApp's 1.75% convertibles due 2013 traded down about 13 points on an outright basis to about 177 versus a share price of $54.77. That compared to 184 bid, 185 offered versus a share price of $57.00 on Wednesday.

The data storage company's stock traded down $3.77, or 6.4%, to $54.77, in heavy volume after saying earnings for the current fiscal fourth quarter would be 49 cents a share to 53 cents a share, which is below the consensus forecast of 54 cents a share.

The company cited a components shortage for the lower quarterly profit.

But the company said that the weaker-than-expected outlook was no indication of a slowdown in sales or a decline in market share, and it predicted revenue in line with estimates.

"NetApp is basically a potential flush [candidate] or a vol. trade, not even a cash flow trade," a sellsider said.

The bonds have a heavy delta, tracking at about 90%, so it was disappointing that they didn't expand some on the way down, the sellsider said.

"If you were real heavy at 110%, then you made a little bit of money," he said.

Market players had set it up heavy before the earnings news, but not heavy enough, he said. It's a big, liquid name, and deep in the money.

Overall, actively traded, deep in-the-money names were flattish on a dollar-neutral basis on Thursday, the sellsider said.

"People are bummed that this didn't do anything," he said. "But in general things don't look very attractive right now."

NetApp estimates revenue for the fourth quarter will be about $1.38 billion, plus or minus 2%, which represents about 7% to 11% sequential revenue growth and about 15% to 20% year over year revenue growth.

NetApp estimates that share count for the fourth quarter will increase to about 414 million shares, including an estimated 18 million shares from the company's outstanding convertible notes and 12 million shares from outstanding warrants.

Share count does not include the company's outstanding note hedges that are expected to offset 80% of the dilution from the convertible notes at maturity or conversion, which would equate to an offset of about 14 million shares if the conversion or maturity occurred in the third quarter.

Third-quarter revenue was $1.27 billion compared to $1.01 billion for the same period a year ago, an increase of 25% year over year.

Third-quarter non-GAAP net income was $211 million, or 52 cents per share, compared to non-GAAP net income of $144 million, or 40 cents per share, for the same period a year ago.

KV Pharma extends gains

KV Pharma's 2.5% convertibles due 2033 traded up 0.125 point outright to 88.5, according to Trace data.

Shares of the Bridgeton, Mo.-based branded and generic pharmaceutical company were hugging the flat line for much of the session but pulled higher yet again late in the day for a 43 cent, or 5.3%, jump to $8.58 in heavy volume.

Since Feb. 1, the stock has surged more than 450% from $1.51 a share.

"They got approval for a drug a few days ago. That's it. Lots of follow through on the stock," a New York-based sellside trader said by way of explanation for the stock move.

KV received approval for a drug that reduces the risk of premature births. The Makena drug was approved ahead of an international trial that will be used to study whether the drug has a clinical benefit in patients, the urgency being attributed to the pressing need to reduce premature deliveries.

Mentioned in this article:

Allergan Inc. NYSE: AGN

Avis Budget Group Inc. NYSE: CAR

NetApp Inc. Nasdaq: NTAP

KV Pharmaceuticals Inc. NYSE: KV

Western Refining Inc. NYSE: WNR

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