Category Archives: Im Focus

Praktiker Bond (ISIN DE000A1H3JZ8) – Scenario analysis & crazy hedging idea

I already wrote a lot of posts about Praktiker in the past.

My previous summary was something like this : I don’t understand the motivation behind the recent events especially asking senior bond holders for a cut first before shareholders contribute , why they didn’t do any capital increase when the stock price was higher etc. etc.

After thinking about this the most likely possibility in my opinion is the following thesis:

Current Management doesn’t work in the interest of the current shareholders and bondholders but in the interest of potential future investors.

The result of this is relatively clear: It would be suicide to invest into the shares, as you can take a massive dilution at some point in time for granted. However, a new investor might prefer a “non-bancrupt” company, so for the bond things might look better from a risk/return perspective.

With this in mind, I think one can now try to analyse the different possible scenarios for bondholders, which in my opinion are

1) No bankruptcy – (unrealistic) best case: Take over within 1-2 year and early full pay out of bond
2) No bankruptcy – normal case: Bond pays out as scheduled
3) No bankruptcy – bad case: coupon gets reduced in second round of bondholders vote
4) bancruptcy – normal case: bond gets “fair” share of liquidation value 40% in 2016
5) bancruptcy – bad case: “DIP” financing reduces liquidation value significantly , value 10% in 201

Then we have to do 4 more steps:

First, assign probabilities to each scenario and the second, “model” cashflows.In a third steps we then can calculate “weighted” total cashflow and then calculate an internal rate of return based on current market prices.

In the following table, I have made a first try:

Bankrupt Prob. in % 2013 2014 2015 2016
Best Case No 5.00% 5.88 105.88 0.00 0.00
Normal Case No 60.00% 5.88 5.88 5.88 105.88
bad case No 10.00% 1.00 1.00 1.00 101.00
Normal Case Yes 12.50% 0.00 0.00 0.00 40.00
bad case Yes 12.50% 0.00 0.00 0.00 10.00
             
Weighted CF   100% 3.91875 8.91875 3.625 79.875

This scenario would give the bond at the current price of 40% an implicit IRR of 28%, which would be attractive. If we would change for instance the “normal non bancruptcy” probability to 35% and increase the two bancrupty scenarios to 25% each, we would end upwith a 17.6% IRR.

Bankrupt Prob. in % 2013 2014 2015 2016
Best Case No 5.00% 5.88 105.88 0.00 0.00
Normal Case No 35.00% 5.88 5.88 5.88 105.88
bad case No 10.00% 1.00 1.00 1.00 101.00
Normal Case Yes 25.00% 0.00 0.00 0.00 40.00
bad case Yes 25.00% 0.00 0.00 0.00 10.00
             
Weighted CF   100% 2.45 7.45 2.16 59.66

An analysis like this can help to understand better the sensitivities of such a rather complicated special situation investment.

Of coure, the probability of bankruptcy is the single most important driver, so let’s discuss this shortly:

On the positive side we have the fact that Praktiker survived the year end and the restocking of inventory for the spring 2012 season. Further, I think at the moment no one has a real advantage if Praktiker goes bankrupt. The biggest problem, the leases for the real estate, could be better reduced if Praktiker would be bancrupt but on the other hand they might have much more problems getting merchandise delivered even if bankruptcy would only be short term.

Additionally, I think the “year end accounting blood bath” makes more sense on a going concern basis than if one would prepare a “prepackaged” bancruptcy.

Potential Catalyst:

In my opinion, something with regard to financing has to happen this year. So there might be a good chance that the bond reacts positively within a limited time frame if the refinancing package is hopefully finalized.

Stand alone risk / return and portfolio view

If I compare Praktiker with the sucessful WestLB Genußschein investment, the Praktiker bond looks more risky, both from the potential downside and time horizon. However, also the potential upside is a lot higher at current levels.

However, on a portfolio level, things look differently. With special situations, I try to make “bets” as long as they are company specific and not directly correlate with each other or “normal” portfolio companies.

With Praktiker, we have the interesting situation that the bond ecoonomically is even negatively correlated with one of my core holdings, Hornbach.

This is something we can clearly see in current company news. In 2011, the German DIY segment showed around 3% growth, Praktiker lost almost 10% in slaes whereas Hornbach and OBI gained significantly above the market growth with 5-6% growth each.

If Praktiker really goes bancrupt, Hornbach among other will profit even more, either through taking over some of the better locations or just gaining more customers. On the other hand, if Praktiker manages the turn around or even gets a startegic shareholder, they might win back a lot of customers from the competition and hurt them significantly.

So one could argue (and I know this sounds a little crazy) that the Praktiker bond combined with the Hornbach shares creates a kind of “hedged” position.

Just for fun I loked at correlations between the Praktiker share, the Praktiker bond and the Hornbach Baumarkt Aktie. And, surprisingly we see the following based on 12 months and daily observations:

Over the last 12 months, the Praktiker share was slightly positively correlated with the Hornbach share (+0.03) whereas the bond was slightly negatively correlated with -.002. Not much but. nevertheless interesting. Again, for instance the last 4 months shows a small positive correlation between the shares (0.05) and a slightly negative correlation (-0.02) between Bond and Hornbach. So maybe not that crazy after all….

Summary:

On a stand alone basis, at current level, the Praktiker Bond is no “sure thing”, but a relatively risky speculation however with a relatively attractive risk/return ratio. In combination with the Hornbach share in my opinion, the combined position has a very intersting risk/return relationship which can greatly increase the expected return of the portfolio by actually reducing risk on an overall level.

I will therefore add a half position (2.5%) of Praktiker 2016 bonds to the portfolio at current prices (limit 41% of nominal value).

Praktiker update – Loss 2011 and result of first vote of “voluntary bond haircut”

Praktiker, the troubled DIY chain has issued a preliminary earnings release yesterday evening.

They managed to book a total loss of 554.7 mn EUR, which translates into -9.56 EUR per share. So most of the 2010 book value of around 14 EUR has now dissapeared within a year.

Very strange (at least for me) was the following passsage:

– So führte die erstmalige Anwendung einer neuen Bewertungssystematik für Warenvorräte zu einer Wertberichtigung des Vorratsvermögens (69,8 Millionen Euro).

So inventory was written down by 70 mn EUR due to a new “method”. This is almost -10% of the 800 mn inventory they showed in Q3 2011. I would be really curious what kind of “method” they used before.

Voluntary Bond haircut

For some reason, I only found the results of the first bondholder praktiker 27.03.2012“>vote through the Luxemburg exchange and not through Praktikers homepage.

So within the process described in a previous post, less than the required 50% have voted in the first round.

However, in the second round only 25% of the bondholders have to vote. So let’s wait and see if those 25% are already “in the bag” and if in the second round more bondholders participate.

It would be really interesting to know, who voted in the first round but as a non-participant I don’t have access too this file on Praktiker’s homepage.

Praktiker AG bond – doing the homework on German law and further thoughts

“Homework”

My last post about Praktiker contained some mistakes especially about he required votes for any change in the provisions of the bonds. I have to admit that I didn’t read the paragraphs before. So let’s do the homework and look at the “Schuldverschreibungsgesetz – SchVG“.

One of the mistakes I made was the following:

Technically, they need at last the mojority of 50% of the bondholders in the first round. If this doesn’t work, in the second round, the majority of a minimum 25% of bondholders (effectively 12.5% plus one bond) could then agree to the changes on behalf of all bond holders.

The German law says however:

Beschlüsse, durch welche der wesentliche Inhalt der Anleihebedingungen geändert wird, insbesondere in den Fällen des Absatzes 3 Nummer 1 bis 9, bedürfen zu ihrer Wirksamkeit einer Mehrheit von mindestens 75 Prozent der teilnehmenden Stimmrechte (qualifizierte Mehrheit). Die Anleihebedingungen können für einzelne oder alle Maßnahmen eine höhere Mehrheit vorschreiben.

So this means the following: In order for the requested changes to become effective, 50% of the Bondholders have to participate in the first round and 75% of the particpants have to approve the proposal.

The same applies to a second round, if 50% particpation is not reached in the first instance, again, 75% of the partcipants have to agree to the proposal. So in an absolute worst case 18.75% of the bondholder could make the requested “hair cut” effective.

Further thoughts:

I still struggle making sense of the sequence of the events. However I came up with one (maybe unlikely) scenario:

I think no one is really interested in putting money into Praktiker as a “minority” investor. However, due to the CoC “poison pill”, a purchase of a majority would be very expensive. So in theory, a prospective buyer wants to buy as many bonds as at a discount as possible in ordert to lower his total purchase price.

The “offer” of cutting the coupon could therefore be a “tool” to get as many bonds at a discount to make a majority acquisition (i.e. through a highly dilutive capital increase) without paying out 250 mn EUR to the bondholders. For someone potentially owning both, a majority position in the shares and a large block of bonds, the cut in the coupon could be value enhancing.

It doesn’t change my approach (Don’t invest if you don’t know the motives of the players involved), but it makes good entertainment and hopefully a good learning experience.

Praktiker AG Bond – Greek haircut anyone ?

In December, I had speculated at what level the Praktiker bond could be interesting. At that time, the bond traded at 38%. During the 2012 rally, the bond almost doubled close to 70% before drifting lower to around 58% in the beginning of the week.

However yesterday Praktiker announced that they will ask the bondholders to accept a “voluntarily” a cut in the coupon from currently 5.875% to 1% in order to “participate fairly” in the burdens for a restructuring.

The bond didn’t trade today, but some broker quotes (without volume) showed prices 34/40 bid/ask.

The German press release says, that potential new investors want to see sacrifices form bondholders and that they are “investigating” a capital increase.

What I don’t understand is the sequence of actions. Those who gain the most from the restructuring have to “sacrifice” first. So the first step would be a capital increase and then asking the bond holders and other creditors. With the current sequeunce of events, Praktiker will most likely never issue a unsecured bond again after this.

As I said in the last post, there is no reason why bondholders should accept anything less than the conditions in the prospectus.

Of course this should be clear to the Management. So is this just a “token” announcement to fullfil some formal requirements or is something else going on ? I do not know.

Technically, they need at last the mojority of 50% of the bondholders in the first round. If this doesn’t work, in the second rounfd, the majority of a minimum 25% of bondholders (effectively 12.5% plus one bond) could then agree to the changes on behalf of all bond holders.

I tried hard to construct any “game theory” situation where this announcement makes any sense. The only one I came up was that management wants to improve the position of the new investors via the bondholders and that they don’t plan to go back to the bond markets for a long time. Addiitonally they have to be sure that a large block of bondholders is voting in their favour for whatever reason.

In any case, as I don’t really understand what is going on, I wil not be tempted to invest anyway, no matter what the price is. The old saying goes “If you don’t know who is going to be the looser, it is most likely yourself”. So for the time being, the senior bond doesn’t look like a winner.

But ut is still a very interesting learning experience for potential distressed debt investments.

Distressed debt Praktiker AG – Why not sell Max Bahr ?

After writing yesterdays post about the Praktiker bond, I wanted to summarize my current thoughts about Praktiker in a more structured way.

My current take aways are:

1. The exercise of looking at Praktiker from a control distressed investor shows, that the plan from the CEO to invest an additional 300 mn EUR into Praktiker does not leave a lot of upside to investors due to the already high amount of net debt (~300 mn EUR).
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