Olam International

Kim Eng on 4 Dec 2012

Temasek comes to the rescue again. Olam announced a capital raising exercise of up to US1.25b, which will be fully underwritten by substantial shareholders, Temasek. This is a very swift and decisive action, which will ease pressure on the company’s financial health, following the rising debt yields on the back of Muddy Water’s allegations. However, we think this may come at a price of eroding minority shareholders’ confidence in the longer-term.

Rights issue of bonds and warrants. For each 1,000 Olam shares, existing shareholders will have the right to subscribe for 313 Bonds (Par value USD1, issue price USD0.95, coupon 6.75%), which will come stapled with 162 free warrants to subscribe for Olam shares at current price of SGD1.575 within the next 3-5 years. The effective yield on the bonds is therefore 8%, with a free warrant sweetener.

To combat rising debt yields. Following Muddy Waters’ allegations, Olam’s share price is down 9.5%, but more importantly bond yields spiked to 10-14% which implies a much higher and arguably unsustainable cost of borrowing going forward for the company. We believe management’s intention is to combat this by 1) Relieving pressure on having to refinance debt within next 12 months 2) Set 8% as a lower benchmark yield for the debt market.

Other terms. The warrants will have a tenor of 5 years, but non-exercisable for 3 years. Upon full exercise, the 387 million shares represent 16% of existing share capital or 14% of enlarged. The legal department will see whether there is a need for an EGM, which would require a simple majority of shareholdings ex-Temasek and the exercise is expected to be completed around Feb 2013. Temasek’s share would go up to 28-29% assuming they take up all warrants.

Downgrade to SELL. This exercise may also hurt short-sellers, as script lenders will have to call for borrowed stock in order to participate. However, management’s earlier stance that it could easily survive 12-18 months even in a credit market seizure may now sound hollow and minority shareholder confidence may be eroded. Given the uncertainty, we downgrade our recommendation from a HOLD to a SELL with a TP of SGD1.42 (1x P/B).