The 4.25% Solution

By Mark Evans | Published: October 3, 2007

Here’s Motley Fool’s take on Nortel recently redeeming $1.125-billion of 4.25% senior convertible notes that were due next September.

Good news, right? You’d think so. Nortel has been saddled with debt for so long that any meaningful balance-sheet progress is likely worth celebrating. But is it here? Honestly, I’m not so sure. Look at that interest rate again. Who else do you know is borrowing $2 billion in capital for 4.25%?

By choosing to pay off this debt early, management is admitting that it has no idea how to earn more than 4.25% on the capital it has at its disposal. There could be other reasons, but in general, I view this as pretty sad.

Correction: Amid a bunch of comments, the Motley Fool comment is inaccurate, if not erroneous.

To be fair to Nortel, the company completed the redemption using the net proceeds from its offering of US$1.15-billion aggregate principal amount of senior unsecured convertible notes completed in March 2007. The offering consisted of $575-million due in 2012 and $575-million due in 2014. The 2012 notes pay interest semi-annually of 1.75% while the 2014 notes pay interest semi-annually at 2.125%.

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  • many

    Maybe this is why they finally got a real CFO (albeit one that has a checkered record of success)?

    Take me for instance; right now I can barely afford gas for the ski boat. I would be glad to have 2B note at 4.25%. I could invest it in a 12 month CDs at 4.5% and more than live off the (5,000,000.00 @ .25%) interest! Perhaps they could have purchased some of their own (supposedly cheap) stock and made even more than a quarter percent? I will say I am pleasantly surprised that the money didn’t find it’s way into the pockets of the BoD or the executives.

    Anyway, I think this is a problem in general. Many companies (the mighty cisco and mircosoft included) cannot find better places to invest money than sitting on it.

  • Rick Jordan

    You should have pointed out that Nortel’s announcement on the redemptions said: “Nortel completed the redemption using the net proceeds from its offering of US$1.150 billion aggregate principal amount of convertible notes completed in March 2007.”

    Nortel issued US$1.150 billion of new notes at 4.25% that are due in 2012 and 2014 in order to redeem the $1.8 billion of 4.25% notes due in September 2008 (not very far away).

    I view their actions as a smart move. They pushed their maturity schedule out by 4 and 6 years.

  • jack_bauers_evil_twin

    Mark,

    The author of the Motley Fool article, Tim Beyers, ignores the fact that the $1.125B used to retire this debt was obtained via the Convertible Notes sold this past March.

    In the various PRs and filings at the time of the March, 2007 sale, as well as in the Q2 10-Q and other, more recent filings, Nortel has made it clear that the proceeds from the March sale were to be used for the specific purpose of retiring a large portion of the Sept 1, 2008 4.25% convertibles.

    From Nortel’s March 28, 2007 PR announcing the completion of the sale:

    “The Company expects that the net proceeds from the sale of the Notes will be approximately US$1.125 billion and plans to use these net proceeds to redeem on or about September 1, 2007 at par a corresponding amount of its US$1.8 billion outstanding principal amount of 4.25% Convertible Notes due 2008. Pending this redemption, the Company plans to invest the net proceeds in money market instruments.”

    http://www2.nortel.com/go/news_detail.jsp?cat_id=-8055&oid=100217381&locale=en-US

    Would Nortel have had a successful sale of notes due in 2012 and 2014 at an average of about 2% had they not pledged the proceeds to paying off part of the 4.25% notes due in Sept, 2008? I don’t know, but it seems to me, that once NT put this proviso into the prospectus, they were contractually obligated to use those funds as they did.

    IMO, the Motley Fool author is either sloppy, or biased.

  • jack_bauers_evil_twin

    Mark,

    Sorry to say you may need a correction to your update.

    The new notes that were sold in March, 2007 are not at 4.25%. The 2012 note pays 1.75%, while the 2014 note pays 2.25%, or about 2%, on average.

    http://www2.nortel.com/go/news_detail.jsp?cat_id=-8055&oid=100217381&locale=en-US

  • Anonymous

    looks like the accounting and financial games have started again..Maybe Mike Z will turn Nortel into Nortel Capital…similar to how Jack Welch divested many business and built GE up via GE Capital Services.

  • many

    Rick & evil_twin: good point.

    One has to wonder when they will be able to stand on their own? I seems from their own reckoning they don’t think it will happen until 2012 at the earliest.

  • The psychiatrist

    If they (the Motley fools) could have only seen when Z lit up a cigar as he leaned up against the post,when someone asked him about the Motley fool article and how they opined that Nortel management didn’t know what better to do with the money than pay off the debt early.

    Z replied,”Business is like playing poker, you always want to keep them guessing,that way you make it hard for your competition to figure your next move”!

  • Observer

    Relentless Deception or confusing macro-ambiguities?

    Immediate cash bonuses for a year counted many times to an optimsitic Q205 that was restated post settlement to downplaying revisions that doubled to even recently believing $19.33 was a buying opportunity making new lows every year when $15 something was much better… etc… it is endless…

    So how now can a company with such a bad, bad credit rating, losing money for a decade, get such wonderul interest rates?

    Like their largest assets being huge! Hooray! ..but it is only and expiring tax credit..booo

    Where’s the carrot for the instiutional buyer in these Notes? Like the extreme reverse split they claimed would increase instiutional interest?

    Are they betting the stock will rise above the $31.25 or $32 buck strike price because cash is preserved to entice them? Is that it because I am confused.

    They are already diluting 14.5% equity for the largest fraud settlements in Canada when it was trading at around $30.50 share they called “fair”worth around half that now…

    So are these notes a good deal? They are B3 rated too like their bonds which listed their largest pension deficit in Canada as a mere footnote…

    Amazing the board sits on the audit committee let alone rewarding financial innovation isn’t it after all they have been through?

    Never mind the smoke and mirrors in Notes. Look at proceeds from selling billions in HIGH INTEREST 10.50% Bonds that largely paid increasingly antsy creditors who were charging them 4.25% interest! Remember, these creditors increased cash collateral 50% to 1.5B after the estimates they downplayed almost doubled to a whopping 1.4B

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  • Casual Observer

    Mark Sue was always a champion of Mike Z when he was covering Motorola. I guess he doesn’t see enough improvement or growth at Nortel just yet.
    –
    http://communities.canada.com/nationalpost/blogs/tradingdesk/archive/2007/10/11/nortel-price-target-cut-to-us-18-competition-troubles-cited.aspx

    FP Trading Desk
    Nortel price target cut to US$18, competition troubles cited
    Although the telecom market continues to strengthen, Nortel Networks Corp. (NT/TSX, NT/NYSE) still finds itself restructuring and continues to lack a dynamic product that will allow it to compete globally, according to RBC Capital Markets analyst Mark Sue.

    As the stock keeps slipping down to new lows, Mr. Sue lowered his price target from US$22 to US$18 as he expects the company to continue to struggle in an increasingly competitive market.

    In a note to clients, the analyst said he expected that North American wireless capacity additions, as well as contributions from the enterprise segment, to rebound Nortel’s revenues towards a US$3.2-billion estimate for the December quarter, about a 4% dip from last year.

    While Nortel is investing in new tech opportunities in Wi-MAX, 4G wireless communications and Provider Backbone Transport, revenues in those segments many not impact the company’s profits for some time. Mr. Sue added that although the company continues to execute its cost-cutting strategy, plans to improve its margins and cost structure have so far been slow.

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