Draegerwerk Genußschein – some more thoughts on the repurchase offer

Following yesterday’s post about the 210 EUR offer per “Genußschein”, some other interesting aspects should be considered.

Dividend cut

I think this is the only time in history I remember that a 80% suprise dividend cut led to a almost 3% increase in the corresponding share price. The reason could be very simple and I have maybe underestimated the Draeger shareholders:

Many Draeger shareholders were maybe well aware of the effective massive dilution through the Genußscheine. The repurchase offer with 210 EUR is considered to be very advantagous for shareholders and therefore the net effect of the Announcement (Dividend reduction against cheap repurchase price) is a positive for shareholders.

As the announcement alone maybe caused this jump, a high acceptence ratio could possibly move the stock price even higher. So there is a lot of “upside risk” in the stock from a short perspective.

Another reason for the jump in the share price could of cours be some short covering, if I was not the only one who has the relative value trade in place.

Game theory Genußscheine

I am still struggling how to interpret potential acceptance outcomes for the offer. If we have a very low acceptance for instance, we have two potential factors which could influence future Genußschein prices:

1. With a low acceptance ratio, everyone knows that Draeger needs to do more to buy the Genußschein back (positve)

2. In theory, they could try to make life difficult for the Genußscheine either by continuing low dividends for a longer time (negative) or try some other tricks like possible dilution etc. (negative)

With a high acceptance rate we have the following potential issues:

3. The Genußscheine will become illiquid, larger investors will no longer be interested (negative)

4. Draeger will not need to increase the offer (negative)

5. However, Draeger could afford to raise the dividend quite fast back to or above last years levels as it doesn’t hurt shareholders anymore (positive).

So we can see, there are many paths how this could develop.

I think what is also interesting in this case is the fact that as Genußscheinholder the interests are not aligned with Management (and shareholders) but directly opposed. This is something one should keep in mind.

8 comments

  • Thanks for the great follow up, muciusscaevola!

    I missed this:

    “It follows from that, that non-subscription right capital increases are possible without even a payment to the Genussschein holders.”

    …and could not believe my eyes when I saw it in the Series A prospectus at §8 Nr. 4.
    Actually this is a risk I do not want to bear. Couldn’t they just buy some entity, pay with shares and the Genussscheinholders hold the bag?

    @ mmi: wouldn’t you read §7 as a typical CoC-clause?

    • #jan,

      re §7: I am not sure, but i think it might not prevent the “empty shell” scenario.

      On thing should be remembered: We are talking here baout a real “tail risk” scenario. Under “normal” circumstances it wil be not so easy to dilute the Genußscheine.

      MMI

  • Good thoughts, some others from me:

    Negative: own agenda of chairman Stefan Dräger, as it shows now with the change of dividend payments. My thesis: no such down to nearly zero u-turn would have been possible without the additional control of the majority of the shares. Who knows whether he decides to continue a low pay out ratio for quite a while for the next reason.

    Negative: the Family of Dräger has lived with a low profitable company for ages. Easy to say why! Having looked it up in the 2007 and 2010 prospecti – gets its alimentation by way of other means like salary in case of Stefan Dräger and rent payments for part of the facilities in Lübeck. Hence, they do not need the dividend to make a living! If pay outs are low, the downside of the equity trigger comes into play. This is different from the rather low risk fixed coupon Bertelsmann Genussschein.

    Negative: dilution is possible! dilution protection is triggered only if shares are issued to old shareholders by way of subscription rights. It follows from that, that non-subscription right capital increases are possible without even a payment to the Genussschein holders. This will happen with the option bond issued to Siemens (1,25 million shares). Draeger can easily issue 10% capital increases without having to ask anybody besides their shareholders (who have a conflicting interest even if the new shares are sold to others). 10% is another 1,7 million shares. Imagine, they do this for a few years in a row.

    Negative: poison pill – delisting, there is currently a case before the Bundesverfassungsgericht regarding the downgrading of shares and whether it effect constitutional rights of holders. If it does not, I fear that many issuers may thing of downgrading or delisting their fixed income instruments.

    Negative: worst would be liquidation, as the entire Genussschein does not participate but receives just the issuance price from back then, which is far below 100 Euro. It is unlikely as long as the Dräger family wants to stay in charge, but if yes? Imagine a sell-off to a large PE buyer taking over the division and the holding is liquidated to optimize pay out to the shareholders rather than to the Genussschein holders.

    Positive aspect: higher visibility of the Genussschein being covered in media and analyst research by way of the transaction. Might increase prices and liquidity if uptake is low.

    My thoughts now: go out with the most having made significant profit, stay in with a small gambling position.

    • Mucius,

      thanks a lot for your points. I think each of them is valid. I would assume that the smaller the acceptance ratio, the more important these points will be.

      Especially the 10% capital increase without dilution protection is of course an issue.

      The Corporate Governance at Draeger is skewed to the management and the family anyway through the “kgAA” structure. As the shareholders are only “kommanditisten”, even the common shares have only a “second class” voting right.

      Therefore I still don’t understand why anyone is willing to pAy a 13 PE for non´-voting pref shares of a KgAA.

      MMI

  • Thanks. Are there no “change in ownership clauses”? Doesn’t it say “Draegerwerke or Rechtsnachfolger” in the prospectus?

    Additonally, taxes might prevent such a transaction.

  • Thanks for sharing your thoughts.

    Four questions seem to be of vital importance:

    1. Does Draeger have any incentive to pay a meaningful dividend? Obviously, the family can take out money through creative (but perfectly legal) methods for themselves.
    If they DO have an incentive to pay a dividend, the Genussschein is a great buy as you know that the superficial “we raise our equity ratio”-proclamation is plainly a 1-2 years bluff to scare off short-term and unexperienced investors.
    If they DO NOT have to pay a dividend in the next 20 years, your investment case is gone as they could just keep on buying the issue in the open market for ever and offer liquidity every few years at a small premium. Actually it is in their interest to have an illiquid issue as this would make repurchase offers attractive for larger holders.

    2. What exact weapons do they have to dilute us and how do these weapons work exactly? If they have a possible dilution weapon it would be very, very dangerous to an investment case that builds upon the “wait and see”-approach.

    3. Who owns these Genussscheine? Deutsche Balaton is known, I expect some private investors like you and me to be invested and I know of one hf who is in there. Draeger as absolutely no interest in treating us well 🙂
    But what about employees? Wasn’t the structure set up as an employee investment vehicle? If many employees were holders of the Genussscheine we can be almost certain that peril will be small as Draeger is not going to screw them too badly.

    4. Besides the dividend- what time and trouble does Draeger have with the Genussscheine? I argue “not much” which would argue against a inherent drift towards repaying them.

    • Jan,

      very good questions indeed. I do not have the answers right now.

      For 2 an extreme example: They sell all the operating business of Draeger AG into a new company. They then exchange the shares of Draeger old into new shares and the Genußscheine remain in the more or less “empty” shell. Of course the Genußschein owners can sue the company but this would be very messy.

      mmi

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