Company is buying calls with the proceeds from convertible notes? What the??

[ValuePadawan]

So a company I follow released a statement the other day that stated that they are issuing 200M of convertible notes and

 

" In connection with the pricing of the notes, Company A intends to enter into privately negotiated capped call transactions with one or more of the initial purchasers or their respective affiliates and/or other financial institutions (the “option counterparties”). The capped call transactions will cover, subject to customary adjustments, the number of shares of Company A's common stock that will initially underlie the notes. The capped call transactions are expected to offset the potential dilution to Company A's common stock as a result of any conversion of the notes, with such reduction subject to a cap."

 

In another section it states,

 

"Company A intends to use the remainder of the net proceeds for working capital or other general corporate purposes, which may include potential acquisitions and strategic transactions."

 

So they offer convertible notes with the possibility of dilution then use a portion of the proceeds to buy calls which will negate the dilution and the remaining money can be used as needed? Do I have this correct? Seems like a strange and risky way to raise money in a pinch but maybe this is a common form of financial engineering and I live under a rock.

 

If I have something wrong please let me know as I'm not particularly knowledgable with derivatives, calls, puts etc.

 

Cheers have a nice day

 

 

[ander]

It's often done by high growth cos (software, etc.). Unfortunately - a great way for bankers to make some extra money too. Companies often end up wasting money on the calls they purchase to increase the strike in case the stock price performance underwhelms. Part of the argument is that they end up getting a lower rate on the financing (the interest rate on the convert is lower) versus if they had just borrowed the money. But yes, I don't usually like it but if the company fundamentals and valuation is compelling enough, I live with it.

[ValuePadawan]

It's often done by high growth cos (software, etc.). Unfortunately - a great way for bankers to make some extra money too. Companies often end up wasting money on the calls they purchase to increase the strike in case the stock price performance underwhelms. Part of the argument is that they end up getting a lower rate on the financing (the interest rate on the convert is lower) versus if they had just borrowed the money. But yes, I don't usually like it but if the company fundamentals and valuation is compelling enough, I live with it.

 

Thanks ander! I don't usually follow growthier names so I was unfamiliar with such transactions I wanted to make sure it wasn't something unprecedented.

[SnarkyPuppy]

I own this company (it's CDLX- why not mention the name?) and am baffled by the decision to issue $200mm converts when they are $100mm net cash and are not bleeding anywhere near that level of cash burn

[ValuePadawan]

I own this company (it's CDLX- why not mention the name?) and am baffled by the decision to issue $200mm converts when they are $100mm net cash and are not bleeding anywhere near that level of cash burn

 

I guess I was wondering if the management team was off their rockers and as I didn't know much about these type of transactions and didn't know how common they are I didn't want to throw stones at a particular management. Perhaps I should have mentioned the name though. I'm assuming this is going to be some type of acquisition or big investment in the platform. What do you think the proceeds will be for?

[SnarkyPuppy]

I own this company (it's CDLX- why not mention the name?) and am baffled by the decision to issue $200mm converts when they are $100mm net cash and are not bleeding anywhere near that level of cash burn

 

I guess I was wondering if the management team was off their rockers and as I didn't know much about these type of transactions and didn't know how common they are I didn't want to throw stones at a particular management. Perhaps I should have mentioned the name though. I'm assuming this is going to be some type of acquisition or big investment in the platform. What do you think the proceeds will be for?

 

The press release says working capital or strategic acquisition/partnership - and it ain't for working capital when they have $100mm cash.