RPI Preference Shares: Yo or No?

[bongo66]

Are Rural Property Investments Preference shares worth a punt?

The returns look promising and not too shabby long-term and there could also be a quick buck to be made as you can dump them after listing and still get the first DIV in October.

What to you guys think?

Preferable or not, that is the question, Bongo

[foodee]

Bong66
Have requested comments in WRI thread - none so far.
Certainly will read the procpectus.
2 positive features so far IMHO
[1] Offer secured against 50.01% WRI shares
[2] WRI has little or no debt therefore scope to pay div is more assured. Presumably the div to RPI will be use to offset the interest on the offer.

More comments - good bad or indifferent.

cheers

[Snoopy]

Hi foodee/Bongo,

Have looked into these as part of the WRI takeover.

These RPI redeemable preference shares look attractive from a pure debt securities position. I don't recall seeing another preference share issue with a 'top up' bonus clause included based on a share price performance (in this case of WRI shares), and the interest rate offered is good. A further bonus, and one that may prove the most valuable of all IMO is the clause that allows RPI bondholders a preferential allocation of RPI ordinary shares at some time in the future, should RPI decide to list.

RPI preference shares are of course debt securities, so they won't be listed on the sharemarket. They'll be listed on the debt market and that could make them more difficult to trade. So as a 'stagging' proposition I would say, forget it. Redeemable Preference shares are more for the income investor.

The principal advantage of owning RPI preference shares over buying shares directly in WRI is that RPI prefs offer a more predictable income stream. You will know exactly what income to expect from the RPI prefs, whereas Wrighton's tends to pay a small interim dividend followed by a much larger final dividend and those WRI dividends are heavily inflenced by the fickle fortunes of the exchange rate, overseas markets and the weather.

A little correction to foodees comments here. The RPI prefs offer is secured against 50.01% of the *cashflow* available from Wrightson's shares. That is quite different to being secured against 50.01% of the Wrightson shares. If the unfortunate possibility of RPI falling over ever came to pass, there would be nothing to stop WRI going about their business as though nothing had happened.

One thing you can be certain of. Norgate will be driving the WRI business very hard to make sure the cash flow comes through to service the RPI bondholders. According to the RPI prospectus (p41) he will be paying RPI management up to $750,000 + GST per year to make *sure* that he does a good job! IMO the outline of RPI given in the prospectus does not do a good job of laying out the risks involved with RPI in a readily understandable form. I suggest you study the financial convenants on p40 of the prospectus as they will give you as good a picture as any of where the real risk is here.

In summary I would rate this as an attractive preference share offer. However, I'm giving it the thumbs down because I'm biased and I really don't like the risk/reward profile of preference shares in general. I am prepared to ride the ups and downs and so I'll be sticking with the WRI ordinary shares that I still have. But if you, unlike me, value the idea of a predictable income stream, I would say go for it.
For the more aggressive income investor, you won't find many preference shares offering a better return than this issue.

SNOOPY

[bongo66]

Thanks Snoopy and Foodie . I found the language and terminology in the prospectus rather obtuse and long-winded.

Couldnt they have made it simpler. Crikey I almost had to have a lawyer interpret for me.

B

[SEC]

Snoopy, if for any reason the cashflow from WRI dries up and a div is not paid for a year, does that mean pref shareholders are not paid either?

Although the average interest rate of 9.75% might look attractive, consider this:
1. The real rate after tax is 6.5%. This rate is considerably LESS than what WRI shareholders have been paid in dividends for several years now.
2. Dividends to WRI shareholders may go up in the future (and have done so for several years) but bondholders get stuck with the same payout for years.

I see these bonds as nothing but a tool for Norgate et al to leverage WRI's cashflow/divs for their own personal benefit. Almost all of the Norgate's 50.01% bid funding will come from these bonds, paid for by the public. In the meantime Norgate recieves hefty management fees and pays out perhaps 60% of his WRI dividend cheque to bondholders while pocketing the rest.

I'm with Snoopy, if you want good income with upside, buy WRI shares over RPI prefs.

SEC

[Snoopy]

quote:Originally posted by SEC

Snoopy, if for any reason the cashflow from WRI dries up and a div is not paid for a year, does that mean pref shareholders are not paid either?

From p40 in the prospectus.

The debt servicing covenant that he banks have put on RPI in relation to RPI itself can be expressed as follows:

EBITDA/ (Bondholders Payout + Bank Interest) < 1.25

RPI investments has undertaken not to make distributions to its shareholders (which I presume includes preference shareholders) unless this ratio is sustained.

RPI currently has no other business interests apart from the WRI shareholding.

At the uprated offer price for WRI shares at $1.65, RPI will need to fork out around $85m in cash to buy the 50m odd WRI shares it needs to seize control. Co-incidentally the total amount being sought in the RPI notes is $85m. That means the offer is being entirely funded by the RPI bonds. Despite the grandstanding, Norgate and McConnan won't need to fork out a single cent of their own money to hold that 50.1% Wrightson stake. But as you can see they are walking a tight rope if they don't want to incur any bank debt on top of the RPI preference share funding costs.

My reading of the covenant is that the gross cashflow available to RPI must cover the amount they intend to pay out to the preference shareholders +25%. If RPI don't get the cashflow they expect from WRI then interest payments to the preference shareholders may be stopped. Also the fact that this is an ongoing covenant suggests to me that there is not enough ordinary shareholder capital in RPI to act as a buffer should the WRI income suddenly drop. So by my reading, yes RPI bondholders are entirely at the mercy of the cashflow available from WRI.

'Normalized' dividend income from WRI shares was announced by ex Chairman Palmer, before the takeover became a certainty: a paid interim dividend of 2.5cps and a projected final dividend of 6.5cps. Taken over 50.1% of the 136m shares on issue, that amounts to a dividend payment for RPI of $6.132m (net) or $9.152m (gross). If 85m redeemable preference shares are issued with an average interest rate of 9.75%, that means $8.288m in gross income is what Norgate needs to find to pay the RPI preference shareholders interest. Add to that the $750,000 management fee that RPI is charging the bondholders and you will see that the WRI dividend inputs to RPI (excluding depreciation) pretty well exactly match the cash outgoings.
IOW should we get a rotten season down on the farm and the core profitability of Wrightson is further reduced RPI will not be able to afford to pay the preference shareholders their interest payments. However, this scenario would be such bad publicity for RPI , that my guess is McConnan would step in and put some of his own money into RPI to ensure there was enough there for preference shareholders to get their interest payout at least.



quote:
Although the average interest rate of 9.75% might look attractive, consider this:
1. The real rate after tax is 6.5%. This rate is considerably LESS than what WRI shareholders have been paid in dividends for several years now.


Yes, but the RPI interest payout does represent almost all of the normalized profit earned by WRI this year.
It is unrealistic to expect that the 'boom' profits of the last two summers will be repeated every year.

[quote]quote:
2. Dividends to WRI shareholders may go up in the future (and have done so for several years) but bondholders get stuck with the same payout for yea

[foodee]

Hi all
Thanks for the comments - all noted.

Foodee

[wsheridan]

I like your analysis Snoopy .... in particular I agree that major owner would step in to provide for any shortfall if needed. It is a reasonably well capitalised issue but a bad season or two would make it very difficulyt to meet payments.

As a yield play it doesn't interest me but it will be very interesting to see how these perform on the secondary market if, for example, we get droughts or flooding in any year, or big movements in the currency. It could be a big mover in those sorst of circumstances and thus fun for traders

[Snoopy]

quote:Originally posted by wsheridan

It is a reasonably well capitalised issue


I hope you aren't referring to the audited RPI balance sheet on p19 of the prospectus. That shows equity of $40m. But have a look at note 6 on page 51 of the prospectus.

The $40m is actually preference shares, which are a debt owed to the Norgate and McConnan interests. The true capital of the company is the 100 ordinary shares issued at $1 each. The total capital of RPI is a lousy 100 bucks!

Now turn to p56 where you will find this remark

"The NZX has also granted certain waivers from the NZX Listing on the basis that, notwithstanding the determination of the NZX to treat redeemable preference shares as equity (rather than debt) securities for the purposes of the NZX listing rules....."

If the stock exchange allows you to declare what is really a debt as equity, then your financial position will look much stronger than it really is.

It comes as no surprise then, that RPI have chosen not to disclose
'the information specified by "clause 8(5) of the First Schedule to
the Securities Regulations" (page 44). They don't tell you what
that means, but I took the trouble to look it up. The information they don't want to tell you is the net tangible asset backing for RPI. It is close to zero!

RPI is well capitalised? I think not!

SNOOPY

[SEC]

quote:Originally posted by Snoopy



quote:
Although the average interest rate of 9.75% might look attractive, consider this:
1. The real rate after tax is 6.5%. This rate is considerably LESS than what WRI shareholders have been paid in dividends for several years now.


Yes, but the RPI interest payout does represent almost all of the normalized profit earned by WRI this year.
It is unrealistic to expect that the 'boom' profits of the last two summers will be repeated every year.



Despite the payout ratio being higher than in previous years, WRI shareholders have enjoyed div payouts after tax over the past five years equating to 9.3%, 15.6%, 11.4%, 9.5% and 7.9% based on the EOY price. So divs are maintained on bad years are included as well as good years at rates well above what RPI is offering.

And Norgate expects WRI shareholders to buy the bonds and take a pay cut?

RPI wouldn't have bought into WRI (with the public's money) if they didn't think it was a cash cow worth milking. Granted the div may fall in a given year which would make it difficult to service the bondholders but Snoopy found RPI has a get-out-of-jail clause in the prospectus if profits do fall. And if divs increase in the next 5 years then RPI pockets the lot.

I can't see these bonds as being anything else than a win-win for Norgate et al. Good on them for achieving it, but I won't be contributing to their cause.

SEC

[k1w1]

I looked at them as the yields initially look good. Have decided not to participate after reading the prospectus. As it says in my other investment bible - "Others preferred".

[Snoopy]

quote:Originally posted by SEC


RPI wouldn't have bought into WRI (with the public's money) if they didn't think it was a cash cow worth milking.

I can't see these bonds as being anything else than a win-win for Norgate et al. Good on them for achieving it, but I won't be contributing to their cause.

SEC


To be fair on Norgate, you could say exactly the same thing about GPG Notes or Sky City Notes. In fact any company on the NZSE that lists notes so that the noteholders get a modest milk shake fixed return, while ordinary shareholders pocket the blue sky cream.

If you compare the RPI notes against other notes I think they come out well. Perhaps a higher risk than some notes, but this is mitigated by the higher return. In my assessment what Norgate is doing follows the general pattern of (convertible notes)/(preference shares).

Anyone buying preference shares does so in the full knowledge that the issuer will be using their money, at a fixed rate, to make an unspecified amount of more money. In theory the preference shareholders are taking less risk because if any trouble happens they will be paid out before the ordinary shareholders. However, in all my time following shares I have never seen a company collapse where the shareholders took all the punishment, and the bondholders got out scott free.

In my view the security of preference shares is over rated. If you want security put your money in a bank term deposit.
But if you want more action than that, buy ordinary shares and go along for the ride with the most upside.

SNOOPY

discl: biased, do not like preference shares at all.

[willy_wonker]

Willy prefers WRI over the RPI notes.

If the commodity cycle turns, you sell WRI shares quickly, but not RPI notes.