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  • peristentone peristentone Aug 5, 2011 8:41 PM Flag

    Redemption Terms for Preferred Shares

    So I found the prospectus' for the Series 1 and Series 2 preferred shares (so called YLO.PR.A and YLO.PR.B). The words that comes to mind are "bad faith offer". They have a provision here that lets Yellow convert the preferreds to common shares by dividing par value + accumulated dividends by the *greater* of (i) $2 and (ii) 95% of the trading price of the common shares.

    Why did anyone allow such a ridiculous provision into these securities? To me this looks like Yellow has completed skewered the holders of these preferreds.

    Assuming that for the next two years Yellow continues to have very little common share value, the preferreds could effectively be wiped out by the conversion. Consider as one example: common shares trade for 50 cents. In this case the $2 limit applies and the preferreds get approximately 12.5 shares. Unfortunately, value of those shares will be less than 50 cents because of effects of dilution of the new shares. Assume that after dilution shares are worth 30 cents. So 30 cents * 12.5 shares = $3.75. $3.75 of common share value in exchange for $25 par value of preferred share value.

    Gee, thanks Yellow Media. You guys and your lawyers are just swell.

    I'll try to find the prospectus' for Series 3 and 5 this weekend.

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    • If you listen to the conf call, I think BMO analyst asked about conversion. Management replied they would buy/redeem/pay cash and NOT convert them. If you are really interested, listen to the conf call. Link should be right on their web site.

      They also stated their INTENT to pay down 1 billion in debt over 5 quarters.

      • 2 Replies to iammewmanium
      • If push comes to shove in 2012, management will change that story on a dime and they will pursue what is in the company's economic interest.

        If Yellow is running short on cash in 2012, and management knows that doing nothing lets you get rid of 80%+ of the value of the preferreds, why would they pay hundreds of millions to redeem them for cash?

        To me the preferred A and B are structurally flawed and above 20% of par would make excellent short candidates as long as stock stays below $2.

      • If the share price remains below $2, and management does *NOT* convert, then they are breaching their fiduciary duty IMHO.

        Since they have proven their willingness to lie, er, "react to market conditions," they probably will convert if the opportunity remains.

        OTOH, with the preferred-2 shares trading at $8, it's even cheaper for YLO to simply buy them outright and cancel them.

    • It appears this $2 floor is designed for *exactly* this situation: when the common stock has fallen through the floor and the management doesn't have any cash to repay, so they must convert. It prevents dilution from being astronomical.

      I must disagree against these terms being in "bad faith"... the terms of the deal are very obvious and not at all confusing. Buyers of these preferred shares knew what they were getting into, i.e., that they were taking on capital risk if the common shares fell to an extreme level.

      "why did anyone allow such a ridiculous provision"? At the time, when YLO was around $8+, it sure didn't seem that ridiculous. Even 3 months ago it would be unbelievable for the common to fall to $2. So why would it NOT be included? It's a piece of protection for the common shareholders, and the buyers judged themselves sufficiently compensated by the dividends they were promised.

      • 1 Reply to Im_Grant
      • I could not disagree more. If you loan me money, it is in bad faith for me to ask for a provision in the loan document that says if I get in financial trouble then the loan is reduced to 1/8th its original value. The fact that your lawyers were better than mine and I had a chance to read the fine print, doesn't make the provision good faith.

        You say it was very obvious, but in one month of discussions here I never heard this dilution clause mentioned a single time, and many thread recommended buying Preferred A and B shares. It was obvious to a lawyer, or to any smaller investor like me motivated enough to read the original prospectus. But obviously there was a very wide audience of retail investors who would and will invest in these financial death traps and think they are something they are not.

        The fact is preferred shares are more like *debt* than like common shares. Most retail investors in preferreds work under a set of assumptions that they will be paid in full before common shares get anything, and they treat preferreds as lowest ranked debt in the credit hierarchy. And 99% of the time that is exactly what it is.

        You are right without the $2 trick the preferreds would massively dilute the common shares. SO WHAT? Common shareholders always understand that if the company collapses and debt converts to common that they will be effectively wiped out. It has been so in 99.99% of all bankruptcies for the last 100 years. GM is a very notable exception. I have been an investor in at least four preferreds in which the company collapsed the preferreds were converted to common as part of a workout. And the common were diluted to almost nothing as a result. That's just the way it is supposed to work.