General Motors rises on union deal; Cephalon see-saws on drug prospects; Interpublic cut by S&P

By Kenneth Lim

Boston, March 22 - General Motors Corp. convertibles rose in line with its stock in early trading on Wednesday after the auto maker announced a deal with former subsidiary Delphi Inc. and the United Auto Workers union, but were flattish by the end of the day.

In the tech sector, Intel Corp.'s convertible bond held up well after Microsoft Corp. said it was pushing the consumer launch of its new Windows Vista operating system to January 2007 and missing the 2006 holiday season. Gateway Inc.'s convertibles were also marked down in line with the stock as analysts expected the delay to soften holiday sales for PC makers.

Cephalon Inc.'s convertibles also stayed unchanged on a dollar-neutral basis despite the stock riding a roller-coaster amid confusion over the expected outcome of a Thursday meeting at the Food and Drug Administration.

Interpublic Group of Cos. Inc.'s convertibles were seen at risk of a wider credit spread after the company reported a fourth-quarter loss and restated earnings. But the stock gained on Wednesday, and an analyst said the results were better than expected and expressed cautious optimism about the company's prospects.

Meanwhile, King Pharmaceuticals Inc. has proposed a new $400 million offering of 20-year convertible senior notes expected to price Thursday after the market closes. Price talk guides for a coupon of 0.75% to 1.25% and an initial conversion premium of 20% to 25%, market sources confirmed.

GM firm on union deal

General Motors, its former subsidiary Delphi Inc. and the United Auto Workers union announced a deal early Tuesday to offer early retirement packages for all 113,000 General Motors factory employees in the United States and 13,000 hourly workers at Delphi, of which 5,000 workers may shift employment to General Motors.

General Motors' 6.25% convertible due 2033 (NYSE: GPM), the most equity sensitive of the company's three convertible bonds, was seen trading in line at 17.875 against a stock price of $24.45 early Wednesday. The security closed at 17.74, up slightly by 0.08 point or 0.45% against a $22.01 stock. The 4.5% convertible due 2032 (NYSE: GXM) closed up by 0.13 point, or 0.56%, at 23.51 versus the same closing stock price, while the 5.25% convertible due 2032 (NYSE: GBM) ended at 16.30, up 0.01 point or 0.06%.

General Motors stock (NYSE: GM) rose as high as $22.68 on Wednesday, but came back to close at $22.01, up 1 cent or 0.05%.

"They're obviously trading better, it's closer to taking care of the overhangs," said a sell-side analyst.

The deal between the companies and the union will include early retirement benefits and other considerations. Some of the Delphi employees may also be offered a $35,000 lump sum early-retirement payment. The agreement still needs approval from the U.S. Bankruptcy Court at a hearing slated for April 7.

Delphi is still negotiating with GM and the union to lower its labor costs. Delphi filed for Chapter 11 bankruptcy protection in 2005 and has said it wants to reach a comprehensive agreement by March 30.

General Motors said it expects to record the cost associated with the deal in 2006, and that the cost will be incurred as employees agree to take part.

Credit rating agency Standard and Poor's said it does not believe General Motors' ratings will be immediately jeopardized by the deal, even though the Detroit auto maker will bear the majority of the costs.

Techs hold up against Microsoft delay

Technology convertibles were down slightly in line with their stocks early Wednesday as analysts forecast slower sales related to the latest delay in Microsoft's new operating system. But the impact was muted with the market shrugging off the news over the day.

Chip maker Intel (Nasdaq: INTC) was expected to take a hit from the delay.

"With over 90% of its revenues from CPUs, chipsets and motherboards, Intel is most directly impacted by the delay of Vista," wrote Credit Suisse semiconductor devices analyst Michael Masdea in a report. "Based on our sensitivity model, a slower PC market in 2006 (from 9% to 8%) and slightly lower ASPs [average selling prices] (-7% y/y to $134) from less high-end systems could reduce Intel 2H06 revenues by ~$200m."

Chip maker Intel's 2.95% convertible due 2035 was seen trading in line dollar-neutral at 87.5 versus a stock price of $19.75, said a sell-side source. But shares of Santa Clara, Calif.-based Intel managed to close at $19.98, up 20 cents or 1.01% with most of the gains coming in the afternoon. Another trading desk marked the convertible at 87.46 against the closing stock price on Wednesday, compared to 87.08 versus the previous closing stock price of $19.78.

Irvine, Calif.-based PC maker Gateway was also seen as a victim of the delay.

"Gateway is probably in most danger, but they're already a crappy company," said a buy-side convertible analyst. "I guess it adds oil to the fire. Not good, that's the bottom line."

Gateway's 1.5% convertible due 2009 was marked at 71.68 bid, 72.18 offered against its closing stock price of $2.36, while its 2% convertible due 2011 was marked at 66.79 bid, 67.29 offered versus the same stock price. Gateway stock (NYSE: GTW)

But the buysider said the Microsoft operating systems group "has a history of delays," and "in the industry literature a lot of people were skeptical" about Microsoft meeting its target launch. As a result, investors had not priced in too much of a boost from the Vista release, he said.

Microsoft said late Tuesday that it would delay the consumer launch of its Windows Vista operating system to January 2007 and miss the 2006 holiday season. This is the second delay in the Vista release for Microsoft, which has not released a new major operating system since Windows XP in 2001 and had earlier targeted a 2005 launch for Vista.

In his report, Masdea said "Windows Vista was expected to be a key semiconductor driver in the 2H06."

"Given that some consumers may postpone PC purchases until Vista is widely available, we believe a small amount of 2H06 PC related hardware and semiconductor demand could be pushed into 1H07," Masdea wrote. "The Credit Suisse hardware team is reducing its PC estimates from 9% unit growth to 8% unit growth in 2006. Based on our analysis, the lower PC forecast would reduce semiconductor growth by 0.2% in 2006."

Cephalon see-saws on unclear drug outlook

Cephalon's B tranche of zero-coupon convertibles due 2033 changed hands at 127 versus a stock price of $67.75 mid-Wednesday as the biotech stock plunged on reports of questions raised by Food and Drug Administration staff on the biotech's sleep disorder drug Sparlon.

But it was not clear if prospects for the drug were necessarily poor ahead of a Thursday meeting at the FDA to discuss whether Sparlon may also be sold as a treatment for attention deficit hyperactivity disorder, said a sell-side analyst. The convertible was marked at 135.2 bid, 135.7 offered at the end of Wednesday, when the stock had climbed back to $73.31. Cephalon stock (Nasdaq: CEPH), which fell as low as $65.04 on Wednesday, closed $1.45 or 2.02% higher.

Documents released on Wednesday showed that some FDA reviewers had questioned Frazer, Pa.-based Cephalon's bid to market Sparlon as an ADHD treatment. The drug is currently sold as Provigil for sleep disorders. Those reviewers cited concerns about the incidences of serious skin rashes and psychiatric problems linked to Sparlon.

The sell-side analyst said investors are taking a wait-and-see approach to the approval process, although "it's probably likely that some sort of a black-box warning will be slapped on if it's approved."

The best case scenario will be that Sparlon is approved for ADHD treatment without the "black-box" warning requirement, although that is unlikely, the analyst said. The FDA is also unlikely to reject Sparlon outright, although the contents of any black-box warnings could have significant impact on whether the drug will succeed.

Sparlon has become a significant drug for Cephalon this year, with the drug's sales expected to exceed 10% of the company's total sales this year and growing to as much as 30% by 2010, the analyst said. Sparlon is also a high gross margin drug.

An unfavorable black-box warning would present significant problems for Cephalon, and "will definitely sicken sales, and [sales in] the next couple of years could be about 50% less than what people are projecting," the analyst said.

Interpublic downgraded by S&P

Interpublic's 4.5% convertible due 2023 changed hands at 106.875 versus a stock price of $10.20 on Wednesday as the stock climbed despite a fourth-quarter loss, restated earnings and a credit rating downgrade. Interpublic

"This company has a lot of issues, but the sense is the worst of it is over," said a sell-side analyst.

New York-based Interpublic on Wednesday reported a net loss of $34.2 million in the fourth quarter, on the back of a $92.1 million goodwill impairment charge, severance pay and higher costs, compared to a $125.3 million profit in the year-ago period. The advertising group also cut net income in the first three quarters of 2005 by a combined $14.1 million. Interpublic's controller and chief accounting officer Nicholas Cyprus resigned.

Standard and Poor's on Wednesday cut Interpublic's long-term corporate debt rating by one notch, to B from B+. Its short-term credit rating was reduced to B3 from B2.

"We remain concerned about Interpublic's earnings outlook given its recent operating trends, the financial and reporting issues resulting from material weaknesses in internal controls, and the negative trends in auto advertising, especially as this relates to the company's largest client, General Motors Corp.," the agency said.

The sell-side analyst said the credit downgrade was troublesome, and could add about 25 basis points to the 4.5% convertible's credit spread.

But he was cautiously optimistic about the company, saying that the fourth-quarter results were better than expected and a slow recovery in the next two to three quarters is expected.

"We're looking for a slow turnaround," he said. "The first half will be difficult because of organic decline - they lost some customers - but that's already known."

King Pharmaceuticals plans $400 million deal

In primary news, King Pharmaceuticals plans to offer $400 million of 20-year convertible senior notes talked at a coupon of 0.75% to 1.25% and an initial conversion premium of 20% to 25%, market sources confirmed.

The convertibles are being offered at par and are expected to price on Thursday after the market closes.

Citigroup, UBS Investment Group and Banc of America Securities are the bookrunners of the Rule 144A deal. They have a greenshoe option to purchase a further $60 million of notes.

A sell-side analyst said the deal looks at first glance to be "a little aggressive," and although it has a low conversion premium the low coupon may still not be attractive enough.

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