Cray routed by filing delay; Toys bounces on buyout; Calpine gets clobbered; Delta, FLYi plunge

By Ronda Fears

Nashville, March 17 - Green was a mere symbol of St. Patrick's Day as convertible screens were mostly in the red Thursday. Otherwise, the kickoff of the NCAA tournament lovingly referred to as March Madness was perhaps one of the few sources of enjoyment as filing delays - such as with Cray Inc. - and other ill-boding news for corporate earnings - such as Calpine Corp.'s restatement of 2004 results - roiled the market.

"After a while you just get punch drunk," said a hedge fund manager. "You're numb."

A couple of new deals marched before potential investors, though no gray market activity was seen in either the Connetics Corp. or M Systems Flash Disk Pioneers Ltd. issues. Israel-based flash data storage firm M Systems Flash Disk Pioneers Ltd. tossed out a $75 million deal - talked to yield 0.5% to 1.0% with an initial conversion premium of 26% to 30% - alongside Connectics' deal, which was upsized.

Earnings related blowups aside, a market source said that once the 2004 reports are in issuance is poised to spring into action. There are still upwards of 20 pending deals sitting in the wings, another said.

"These [10-K annual report] filings were apparently keeping a lot of the issuers, their CFOs, busy during first quarter, so that is the theory as to why issuance was so low in first quarter. That comes from the capital markets guys, and it makes sense, I suppose," said a sellside source.

Through Thursday, excluding the two deals at bat after the close, convertible issuance is running less than half the amount during the same period a year ago, at $6.3 billion versus $15.3 billion according to data compiled by Prospect News.

Oil prices, though futures moderated somewhat on Thursday, is another factor weighing on corporate profits. Airline paper is particularly susceptible and ongoing financial troubles at Delta Air Lines Inc. and FLYi Inc. caused those two to lead the downward spiral continuing in airline paper.

General Motors Corp. and Ford Motor Co. also continued to lose ground, as investors wrestle with several negative points - weak sales and profitability, credit pressures and a compound to those by ongoing high oil prices. GM's convertibles dropped another 0.375 to 0.5 point on Thursday, while Ford's convertible fell 0.625 point.

To the plus, and there were a few, Toys "R" Us Inc. was hot after the company announced it accepts a $6.6 billion buyout for the whole company rather than a split of the toys and babies divisions as it had been seeking.

Comtech Telecommunications Corp. was another gainer with its 2% convertible adding about 2 points on a 3% rise in the stock, although there was no news as a catalyst. A sellside trader commented that the run up in Comtech had incited profit taking among outrights and as they peeled out of the convert, hedge funds were getting involved.

Connetics 3% cheap at mids

Connetics sold an upsized $150 million 10-year deal with a 2.0% handle and 35% initial conversion premium - at the wide end of guidance for a coupon of 1.5% to 2.0% and at the middle of premium talk of 32.5% to 37.5%. The deal was bumped up from $125 million, and the greenshoe was boosted, too, to $50 million from $25 million, so the deal likely will end up at $200 million.

While the deal was not seen in the gray market, according to buyside traders, analysts thought it looked fairly cheap relative to other recent new deals.

At the middle of the price talk range, Merrill Lynch analysts put the new Connetics convertible about 3% cheap, using a credit spread of 450 basis points over Treasuries and 45% volatility. At the respective ends of the guidance, the issue is seen 1.0% cheap to 4.8% cheap.

Given current scarcity of new deals, Merrill analysts had anticipated the issue to price at the aggressive end of price talk.

The Palo Alto, Calif.-based specialty biotech firm is selling the issue on swap with $35 million of proceeds earmarked to buy back stock from short sellers participating in the deal. Connetics, which develops treatments for dermatological therapeutics, did not specify the use of proceeds, but market sources pointed out that its $90 million 2.25% convertible becomes callable this coming May with a 140% hurdle.

It is widely anticipated that Connetics will use proceeds to redeem its 2.25% convertible due 2008, which becomes callable in May with a 140% hurdle. Ahead of the new deal, Connetics stock dropped 80 cents, or 2.96%, to $26.27.

Cray falls on delay, stock cut

Supercomputer maker Cray was hit in the convertible market with a double punch Thursday after it announced that it was seeking a delay to file its annual report, which prompted a two-notch downgrade to the stock.

The 3% convertible settled at 79 bid, 80 offered - falling 6 to 8 points on swap, based on a 66% hedge, or around 15 points outright - while Cray shares lost 78 cents, or 25.91%, to close at $2.23.

"Unless you hedged to the hilt, which you couldn't be with the premium contraction, you got slaughtered," said a convertible trader at a hedge fund.

A sellside trader said a 66% hedge was not too difficult to accomplish and acknowledged it only minimized the blow that outrights took by two-thirds. "If you had a real heavy hedge, like 100%, then you were OK," he said. "But I don't think anyone had that."

Seattle-based Cray said it postponed filing its 2004 report with the Securities and Exchange Commission pending a review of its bookkeeping, and is expecting to identify one or more "material weaknesses" with regard to third-party contracts and the lack of software application controls as well as documentation.

Piper Jaffray analyst Les Santiago cut his rating on Cray stock by two notches to underperform, saying the event is "a significant negative for a company that was attempting to turn the corner on its operating results and on improving investor sentiment."

Calpine crumbles over 2.5 points

Calpine was slammed, too, after announcing it would restate its financials for third-quarter 2004 and delay its 2004 reports as well, because of a possible deficiency in recorded taxes related to the sale of assets in Canada.

"Right now everyone is a little edgy," a sellside trader said. "Just the hint of bad news could cause anything to fall right off the map."

The 4.75% converts fell 2.5 points to 72.25 bid, 72.75 offered, and the 6% converts plunged 2.875 points to 91.25 bid, 92.25 offered, while Calpine shares lost 12 cents, or 3.81%, to close Thursday at $3.04.

Standard & Poor's credit analysts said the event was "a credit concern, but does not immediately affect the company's ratings."

Calpine said it expects to file its 2004 annual report at the SEC by March 31 and said the restatement will not affect financials for any years before 2004.

Toys "R" Us buyout a triple play

Toys "R" Us agreed Thursday to a $6.6 billion buyout by an investment group that includes two private equity firms and a real estate developer in whole, rather than split the toy and babies divisions as it had been considering since last August.

The Toys "R" Us 6.25% mandatory, which matures in the coming August, soared 3 points to 61.625 bid, 62 offered while its junk bonds, the 7.875% notes due 2013 were seen off 2 points to the 92.5 area. Toys shares bounced up another $1.23, or 4.97%, to $26.00.

"This is definitely a triple play," said a convertible hedge fund manager. "We love it when they sell the whole company rather than splitting it up. That's perfect for us. If they split it up, then you have to deal with the left over stub."

The retailer had been looking to separate its sluggish toy business from the more profitable Babies "R" Us division, but instead agreed to an offer for the whole company by Kohlberg Kravis Roberts & Co., Bain Capital LLC and Vornado Realty Trust, who will be equal partners.

The buyers are assuming an undisclosed amount of debt; Toys "R" Us has an estimated $2.3 billion of long-term debt. The consortium is paying $26.75 a share, an 8% premium over Wednesday's close.

The acquisition is expected to close by July.

Oil pushes airline paper lower

Delta and FLYi convertibles led another sharp descent in airline paper Thursday, although crude oil prices moderated slightly with the April contract settling off 6 cents to $56.40 a barrel but not before hitting a new intraday high of $57.60.

"It's ugly," said a sellside trader. All the airline paper was spiraling lower, he said, and "having engine problems," inferring further declines are in store for the sector.

Delta's 8% convertibles dropped 1.5 points to 42.25 bid and the 2.875% convert lost 2.25 points to 40 bid, while Delta shares ended Thursday at $4.12, down 17 cents, or 3.96%, on the day.

The FLYi 6% convertibles, which still show the company's former name Atlantic Coast Airlines, plunged 5 to 10 points, depending on how you looked at it. On Thursday, the issue was at 20 bid, 25 offered, according to a sellside trader, who said the issue had an offer at 30 with no bids on Wednesday.

"This one [FLYi] will be liquidated and the debt will be worth the food trays," the trader said. "When you charge $69 bucks to fly to the West Coast [from its hub at Dulles, Va., just outside Washington, D.C.] the engines eat up the few assets left rather quick."

FLYi shares lost 7 cents, or 4.4%, to end at $1.52 on Thursday.

FLYi's relationships with Delta, which has repeatedly warned of a possible bankruptcy filing over the last year, and United Airlines Inc., whose parent UAL Corp. has returned to bankruptcy court for the second time, are "fatal connections," remarked a buyside convert trader.

In addition to skyrocketing fuel prices, traders said there is increased concern about recovery levels. It is extremely worrisome, one said, in light of a Moody's Investors Service report earlier this week showing heightened concern about lower recovery amounts for aircraft guarantors.

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