United Industrial bid up 2 points, terms tightened; new Simon convertible seen emerging

By Ronda Fears

Nashville, Sept. 9 - Post-Labor Day primary market action has not yet reached the gangbuster pace anticipated, but a big new convertible preferred from Simon Property Group Inc. - born out of its $4.9 billion acquisition of Chelsea Property Group Inc. - may begin trading in the when-issued market in the next couple of days.

The 6% perpetual convertible preferred, however, is now estimated at $662.5 million versus $935 million when the merger was first announced in June, based on an S-4 filing by Simon Property on Thursday.

Elsewhere in gray market action, United Industrial Corp.'s small new deal shot up with bids going as high as 2.5 points over issue price but eased back to a bid of 2 points over as indicative terms were tightened on the premium side. United Industrial's $100 million deal was at bat after the close.

In secondary action, most of the ConvertWorld was better bid, traders said, as the Nasdaq gained a full 1% on the day. A good portion of the Nasdaq's gain was attributed to Nokia boosting its third quarter guidance, saying the global cell phone market has maintained strong volume growth.

Several telecom equipment convertibles were propelled upward on the Nokia headlines, such as Motorola Inc., RF Micro Devices Inc., Skyworks Solutions Inc., Triquint Semiconductor Inc. and Vitesse Semiconductor Corp.

Chips for telecom equipment were not the only exception to an anticipated slip in the chip sector, after Texas Instruments Inc. warned about expectations for its earnings. As expectations were low with regard to chipmakers' results, traders said several chip issues were higher, including LSI Logic Corp. and STMicroelectronics NV.

Massey Energy Co., a darling among fund managers looking for alternatives to traditional oil and gas issues for their portfolios, took a dive Thursday after the coal company warned that third quarter profits may come in below previous projections. The 2.25% convertible due 2016 dropped 1 to 2 points, traders said, to the 114 area as Massey shares lost 78 cents, or 2.66%, to $28.50.

Also, Delta Air Lines Inc. convertibles continued to slide following its restructuring plan details, which the airline acknowledged may not mean bankruptcy will be averted. The 8% convertibles were off another 0.75 point and the 2.875% converts down another 1 point, while Delta shares lost 12 cents on the day, or 2.97%, to $3.92. Delta's junk bonds also retreated, by as much as 2 points on Thursday.

Headwaters Inc.'s convertible came in on swap but added about 4 points on an outright basis, a sellside convertible desk analyst said, after the company announced a $715 million acquisition.

Simon issue seen above par

Simon Property's new convertible preferred has been anticipated since early summer when the Chelsea merger was announced, and now that the registration statement has been filed, market sources expect it will begin trading in the gray market soon.

"We are expecting it [the new Simon Property convertible] to trade when-issued in the next couple of days," or next week, said a desk analyst at one of the convertible shops on the Street. "I expect it will begin north of par."

None of the basic terms of the issue were changed in the S-4 filing Thursday, but the amount of convertible preferred shares was reduced to 13.25 million from the original 18.7 million. At a par of $50, the issue would thus shrink to $662.5 million from $935 million.

The perpetual convertible preferred will carry a dividend of 6% and conversion price of $63.86, or conversion ratio of 0.783. The conversion price was a 22% conversion premium over the closing price of $52.30 for Simon shares when the merger was announced, but based on the stock's closing level Thursday the premium has shrunk to 16.75%.

Simon shares on Thursday fell $1.85, or 3.27%, to $54.70, which a dealer attributed to general weakness in the real estate sector along with a sellside "valuation call on the stock that said it was expensive."

"REITs were taking a hit today in general," the trader said. "Last week the REITs were second only to the oil companies in price gain, so now we're seeing a pullback because some analysts said they got too rich, too soon."

Risk arbs interested in Simon

Convertible analysts said risk arbitrage investors have been keen on the new Simon Property convertible since the Chelsea merger surfaced, on an ongoing basis, and are beginning to stake out positions.

"We have been getting ongoing queries from risk arb investors" since June, said one convertible analyst at a bulge bracket firm.

Lehman Brothers analysts estimated in a report shortly after the merger was announced that, based on terms of the merger of the mall property companies, every 100 shares of Chelsea common would create 30 shares of the new convertible. Simon will pay $66 for each Chelsea share - $36 in cash, $15 of Simon shares at a fixed ratio of 0.2936 and 0.3 or roughly $15 of new convertible preferred stock with a par of $50.

Putting on the risk arb spread would be worthwhile, the analysts said, for investors who believe the merger success probability is greater than 86% to 89% and are comfortable with hedging the convertible as a gray market in the convertible would provide another way to trade the risk arb spread.

Lehman analysts estimated the new Simon Property convertible to be worth 51.79, relative to the late June Simon stock price of $51.95, based on a credit spread of 200 basis points over Libor and a volatility assumption of 18%. With the stock at $55, the convertible value was estimated at 53.24.

Chelsea has scheduled a special stockholder meeting for Oct. 13 to vote on the merger. At least two-thirds of Chelsea stockholders must approve the merger.

United now 3.75%, up 35-37%

United Industrial tightened the terms on its new deal, but it just took a nick off the issue in the gray market, a buyside trader said, as demand for new paper rages.

"Well, it's not like we're just frantic trying to keep up with all the new deals coming out," the trader said, sarcastically. "This is actually a pretty decent deal, a decent coupon, relatively speaking. We'd like better, of course, but it'll do."

The price talk was amended Thursday, following a full day of marketing Wednesday, to a 3.75% coupon and 35% to 37% initial conversion premium, versus original talk of a 3.75% to 4.25% coupon and 27.5% to 32.5% initial conversion premium

The $100 million of 20-year convertible notes launched before the open Wednesday and were bid 0.5 point over issue price in the gray market by Wednesday's close.

United Industrial shares regained 59 cents on Thursday, or 2.1%, to $28.64.

Headwaters convertibles gain

Headwaters' convertible came in on swap but bounced back on an outright basis, a market source said Thursday, after the Utah-based alternative energy firm announced it would buy a siding company for $715 million in cash.

The Tapco Holdings Inc. acquisition was announced late Wednesday afternoon and initially sent Headwaters shares lower by 6%, but the stock recovered Thursday, adding $1.90, or 6.67%, to close at $30.39.

"There was a lot of speculation about new debt, and probably some hedge fund positioning, that caused the bonds to come in yesterday with the stock, and they were in pretty severe on swap," a sellside trader said. "After everything was digested, it bounced back."

Headwaters' 2.25% convertible due 2016 ended at 125.25 bid, 126.25 offered Thursday, up 4 points.

Headwaters, whose technology turn coal derivatives into synthetic fuels, said the deal will boost its 2005 earnings by 10 cents to 20 cents per share. The company now expects 2005 earnings to range from $2.20 to $2.30 per share. Tapco will become part of Headwaters' construction materials division that makes stone, masonry, stucco and other home siding materials.

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