Bondholder games

From reading through various financial filings, it struck me that many large corporations don’t pay a lot of attention to their bond holdings.  They allow investment firms to buy dubious bonds on their behalf.

Exhibit #1: Potash Corporation

From the 2009 annual report filed on EDGAR:

In April 2009, the company recognized a gain on the disposal of auction rate securities of $115.3 due to the settlement of a claim it filed in an arbitration proceeding against an investment firm that purchased auction rate securities for the company’s account without company authorization. The investment firm paid the company the full par value of $132.5 in exchange for the transfer of the auction rate securities to the investment firm. The company retained all interest paid and accrued on these securities through the date of their transfer to the investment firm The company was also reimbursed by the investment firm for $3.0 of its legal costs.

Basically, an investment firm bought auction rate securities (in hindsight, terrible investments) for Potash without company authorization.  A lawsuit and legal fees ensued… Potash got its money back.  I’m surprised that the investment firm didn’t try to settle out of court, avoid the legal fees, and avoid a bitter fight with its client.

Exhibit #2: Liberty

Liberty issued some complex exchangeable debentures.  These bonds give tax advantages to Liberty at the expense of the bondholders.  In an efficient market, you might think that the people buying these bonds would be organizations and companies that do not have to pay taxes (e.g. companies with significant tax losses).  You can see the names of many of the bondholders in this S-4 filing… there are taxpaying corporations such as Microsoft Corporation.  I’m not sure that owning these bonds is such a good idea for taxpaying corporations.  On top of that, being on the opposite side of one of John Malone’s trades may not be a great idea.

Now if you look at Liberty’s history, it has done things at the expense of bondholders.  Liberty typically issues bonds where the bondholders have unusually low levels of protection.  Liberty can do various things that would affect its creditworthiness in paying out its senior exchangeable debentures.  It was sued when Liberty spun off into Liberty Capital and Liberty Interactive.  Bondholders were unhappy because suddenly there were a lot less assets backing up their bond payments.  Liberty won the lawsuit.  The spin off increased the credit risk on the bonds and bonds sell cheaper to reflect the higher credit risk.  Liberty was there to opportunistically buy back its debt at a discount to what it sold the debt for.

Another game that John Malone has played is to threaten banks with defaulting on loans.  Sometimes banks do not want to seize collateral underlying loans because they have no idea on how to operate a business and will experience large losses in liquidating the collateral.  The Malone biography Cable Cowboy describes how Malone threatened the banks with handing over the keys to TCI.  He was ultimately able to negotiate changes to the bonds so that TCI would have an easier time dealing with its debt load.  Not all bondholders are like this and the savvier bondholders will act like “bond bullies” and try to seize a particular business when it is having liquidity issues (e.g. this would have happened to Sirius XM if it wasn’t rescued by John Malone/Liberty Capital).

Closing thoughts

I’m not sure if any of this information is particularly helpful in analyzing stocks.  Usually the bonds of a company don’t really matter too much.  However, it does show that the management of the various Liberty companies is very savvy and smart.  Liberty Starz is currently issuing bonds in today’s low interest rate environment where bondholders are starved for yield.  These bonds will likely be a not-so-great deal for the bondholders (“Malone’s Starz Sells Bonds Lacking Protection“).

*Disclosure: I do not own any Liberty companies.  I didn’t even buy Liberty Interactive before the Ventures tracking stock split… which is possibly a mistake.  I own Potash call options.

2 thoughts on “Bondholder games

  1. Pingback: Tracking John Malone (Part 1) | Glenn Chan's Random Notes on Investing

  2. Pingback: Ocwen/Altisource: What went wrong | Glenn Chan's Random Notes on Investing

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