multichannel connect
careers
all access

Cable Operators

Potential Dilution Dogs Charter Shares

11/21/2004 7:00 PM Eastern

Charter Communications Inc. stock sunk to a new 52-week low last week ($2.04) after it struck a bond deal to extend the maturity of an impending $588 million payment — but did little to address its near-crushing $18.5 billion debt load.

The top-four MSO said it issued about $750 million in convertible debt on Nov. 16, mainly to refinance a $588 million convertible note due in October 2005.

Charter’s Stock Price
Date Open High Low Close
11/17 $2.17 $2.25 $2.04 $2.08
11/16 2.41 2.47 2.08 2.16
11/15 2.69 2.75 2.62 2.71
Source: NASDAQ Web site

Charter said the remaining $162 million from the bond offering would be used to buy U.S. Treasury securities to serve as collateral for the new convertibles for three years.

HEDGE AGAINST DEFAULT

While that could be construed as a desperate measure, it would at least prevent a default on the bonds for their first three years (the treasuries would be used to pay interest on the converts) and would keep bondholders from being able to tap into Charter’s cash flow.

Charter also said it would register about 150 million common shares with the Securities and Exchange Commission that can basically be used by convert investors as a hedge against the new converts.

Those shares are expected to be retired by Charter as the convert deal unwinds over the long term.

The bond offering matures in 2009, giving Charter a little more breathing room, but the price of the convertible notes appeared to spook some investors.

At $2.42 per share, the converts could potentially be in the money long before 2009 (the price represented just a 12% premium to Charter’s stock price of $2.16 on Nov. 16) and could dramatically dilute existing shareholders.

UBS Warburg cable debt-and-equity analyst Aryeh Bourkoff estimated in a report the outcome could potentially be another 310 million Charter common shares on the market, or about 33% of the MSO’s current outstanding shares.

That potential dilution apparently did not go over well, as Charter stock declined 20% (55 cents) on Nov. 16, to $2.16.

On Nov. 17 Charter dipped below its 52-week low of $2.08, reaching $2.04 each. It ended the day at $2.08, down 8 cents.

Charter has long been under pressure to restructure its debt load, the highest in the industry.

While most analysts were not surprised by the most recent moves, they saw them mainly as a stopgap.

“The announced financing prevents a liquidity crisis in 2005, but does not meaningfully improve the balance sheet,” wrote Fulcrum Global Partners cable analyst Richard Greenfield in a research report.

Credit ratings agencies Moody’s Investor Service was equally concerned, slapping a “Ca” rating on the new converts, well below investment grade. Moody’s held its “Caa1” rating on Charter’s senior debt.

WAITING FOR ALLEN

Many analysts have called for Paul Allen, Charter’s chairman and largest shareholder, to step to the plate and buy either equity or debt to reduce Charter’s leverage. To date, Allen has resisted.

“With Paul Allen’s continued silence, Charter is increasingly being forced to dilute current equity holders through debt-for-equity swaps (essentially what this convert is) and/or look to sell assets,” Greenfield wrote in his report.

Charter has sold about 250,000 nonstrategic subscribers over the past year, raising about $830 million. While Charter said it continues to look at selling additional non-core assets, some analysts believe it may have to sell more strategic systems, like its Los Angeles property.

Charter suggested a few months ago at an industry conference that it would consider selling some of its better properties, including the L.A. system, but left it at that.

Oppenheimer & Co. cable analyst Tom Eagan stated in a report he believes the L.A. sale is inevitable and could help reduce Charter’s overall leverage by 1 to 1.4 multiple points.

Operationally, Charter has struggled.

Cash-flow growth in the third quarter was just 1.5% (in line with 1.5% and 3.4% growth in the second and first quarters, respectively).

Charter also continues to lose basic subscribers, subtracting 58,600 basic customers in the third quarter, the fourth straight quarter of basic subscriber losses.

Greenfield predicts that based on its past performance, Charter would have positive free cash (cash after interest payments and capital expenditures are made) next year. He estimated Charter’s 2005 free-cash-flow deficit would be about $171 million.

Greenfield also warned that as Charter continues to try to pare down debt through debt-for-equity swaps, the stock could continue to tumble.

September