Here is the formula by which strike price and number of shares are adjusted:
The anti-dilution adjustment has two elements. First, the strike price gets reduced. Second, the purchasing power per warrant (i.e. the number of shares that can be purchased with one warrant) increases. Both formulas can be found in the warrants' prospectus.
The formula for the strike price adjustment is as follows:
SR1 = SR0 * (SP0 - C) / SP0 where,
SR1 = the strike price after the record date
SR0 = the strike price before the record date
SP0 = the stock price on the record date
C = the dividend minus $0.675 (hereby referred to as the "excess dividend")
Or, in plain English:
1. Calculate the excess dividend as a percentage of the stock price.
2. Reduce the strike price by that percentage.
Based on that formula, one can make a very interesting observation: the higher AIG's stock price, the less the strike price is reduced.
Thus it seems long-term warrants holders get a slight boost if AIG's stock price lags. But that's not the whole story.
The formula for adjusting the purchasing power of each warrant is shown below:
SH1 = SH0 * SR0 / SR1 where,
SH1 = the shares that can be purchased after the adjustment
SH0 = the shares that can be purchased before the adjustment
In other words, if the strike price goes from $45 to $22.50, then that doubles the purchasing power of each warrant.
Interestingly, this provision means that a higher stock price results in a more favourable adjustment.
I guess like some of us, heavily invested in AIG, lately it has demanded an intestinal fortitude which has been challenged. I am starting doubting myself on this investment, but I still think I must continue and wait for better times.
The spinoff represents a change in the composition of shareholders equity. Plus cash - minus 20% ownership of the mortgage insurance business. No distribution to shareholders, so there should be no change in strike price of warrants.
If shareholders got the proceeds (or the new shares) the answer is yes. But if the money from the IPO and subsequent market sales of the remainder go back into the company's coffers, then I don't see any cause for adjustment. It's really common sense, but as we all know, common sense doesn't always prevail. I'm comfortable that the warrants will be treated fairly, so I must confess I haven't paid much attention to how this deal is structured.
That $75 seems high- not because I don't think AIG could be worth that, but because I think they want to get most of their buybacks done before we get that close to book value. I expect AIG to keep taking reserve and restructuring charges as long as cash flow allows hefty buybacks. I know in theory they don't have that much discretion, but my experience suggests otherwise.
BTIG Research Reiterates American International Group (AIG) Outperform $75.00
Goldman Sachs Reiterates American International Group (AIG) Buy $66.00
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That's what I love about this investment. Even under the conservative assumption of keeping the dividend the same until 2021, and assuming share price of $75 in Jan 2021, we would have a strike of $42, and each warrant could buy 1.07 shares. This equals a warrant value in total of $35.31 which is over 100% increase from today. And this is the low end of the models.
Thanks for the shout out. Like the Enron off-balance sheet deals, when the terms were written the extreme scenarios were "off the radar". Maybe they should have known better, but they didn't. What raises my eyebrows is how modest the "excess" distributions have to be for that formula to hijack the balance sheet. For now, this formula doesn't seem to matter at all, until it starts to matter a lot. Expect AIG to quietly and nervously buy as many warrants as they can. Their "Plan B" to modularize and sell units that fail to meet profitability goals cannot proceed, unless they can pave the way by shrinking that warrant float.
Your point is well taken even though the zero strike scanario is extreme and would represent a meltdown of the company. I also don't recall any floor on the strike price (as well as a ceiling on the number of shares per warrant). Sounds like a suicide recipe....thanks for bringing it up
Let me add one final note to the "that-can't-be-true" math I model below. Do you think it's a coincidence that these 10MM warrants were bought unannounced, and in this, of all quarters? Peter might be brilliant managing AIG's finances, but he missed what would appear to him to be a minor weakness in the capital structure, that only a financial "hacker" would notice- namely hedge fund managers like Paulsen and Icahn'. They no doubt alerted him to this obstacle to substantial liquidation and told him he needed to quietly retire as much of that float as he could get his hands on. Don't expect more than minimal discussion of the issue from Peter. The script will read something like, "we are making modest purchases, from time to time, as market conditions justify". Expect him to sound boring, formal and almost lethargic. He wants you to fall asleep before he's done answering any questions.