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VIDEOHGSI Still Has Plenty of Room to Grow
Company's bonds far, far likelier to be paid in full.
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HGSI has convertible bonds maturing in 2011 and 2012. Back in February, the bonds were trading around 40-odd and 30-odd cents on the dollar, respectively. Before today, the only research firm to make positive comments on the stock this year, ThinkEquity, reversed its February "accumulate" call in early June. Back in March, the stock had fallen well below $1.
When I wrote about the bonds in February, I mentioned that they offered the chance for investors to double or triple their money relatively quickly in the event that some large pipeline-seeking pharmaceutical company came in to buy what was left of the company. My focus was on the poison-put feature of convertibles. You get back 100 cents on the dollar in the event of a cash takeover, regardless of the price at which the company's equity is acquired.
Sometimes you get the right answer for at least partially the wrong reason. Today, the company shocked the Street by announcing unexpectedly good results with its lupus drug. The stock -- which had already increased from its depths by a factor of 7 amidst the flight from quality of recent months -- tripled today and now trades around $11.
The profiles of the convertibles are now, needless to say, very different than before. Before today (also a great song by Everything But the Girl), the bonds appeared to be a bet on the company's survival, with yields to maturity above 20% to go along with the possibility for accelerated capital gains in the event of a takeout. But now the bonds have a fair degree of equity sensitivity.
The 2012 bonds, for instance, are now changing hands just below 90 cents on the dollar. But consider this: If the stock triples over the next 3 years, they'll be worth about 185. Given the moves the stock's already made, this can't be dismissed.
More importantly, the company's viability profile is very different now. It can suddenly issue equity in a far less dilutive manner to stabilize its balance sheet, leaving plenty of room for future growth. And as long as the company survives to 2012, you get back 100 cents on the dollar. This was looking pretty dubious a few months ago. Now the bonds are far, far likelier to be paid in full. So you have a high likelihood of a respectable return -- around 6% annually -- with a shot at another home run.
Who said convertibles are boring?
Here comes the shameless plug. I talk a lot about convertibles and how they can help you improve the risk/reward skew of your portfolio in my forthcoming book The Undoing of Cowardice. It's due out later this summer!
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