Aston Martin – A long debate
All,
Please find our unchanged analysis here.
Under normal circumstances an equity raise is credit positive all else being equal. The Aston Martin (AML) rights issue has been rumoured in the press recently but does not tally with management comment on the Q1 call in May. This reiterates the concerns we voiced at the time regarding AMLs available liquidity, which is why this is not a normal circumstance equity raise. So while fresh cash from equity holders is certainly very welcome, we explore the timing of the announcement, and its fundamental implications for the business and almost come to a conclusion on value and in particular the bonds.
Why do a Rights Issue now?
- Overall this is positive news for bondholders, but the starting point for liquidity is below our expectations. The reaction to poor 1H results will now be dampened by the announcement of cash coming in.
- Management is now forecasting cash of £500m-£600m after completing the Rights Issue (expected by the end of September). Our model would have a company with £650m of cash in Q3 (accounting for a £300m debt paydown). A £100m fall in liquidity, however, temporary required a response from AML and it has arrived.
- AML admitted that H1 cash flow was “highly impacted by working capital outflows related to supply chain and logistics”. Management expects this build-up to reverse in the second half of the year but has provided no further detail yet. There is some anecdotal evidence that there will be more container capacity in H2, reducing freight rates and the absence of Chinese covid restrictions in H2 would help with supply chain logistics. However, exiting this valley in cash flow may well take longer and will be largely outside of AML’s control.
- Waiting until after the 1H results had been published could have left the equity markets spooked, making a rights issue even more dilutive. The 1H22 numbers are out on the morning of 29 July, the main shareholders committing to taking up their rights and getting their retaliation in first has helped calm the equity market and move the focus to new models and new power units.
- It is also plausible that the Saudi investor (PIF), who announced an additional investment in McClaren yesterday, was ready to go, and Lawrence stroll felt that securing finance today was better than waiting and risking PIF moving on (and Geely declining to return). If so, the timing would be more tactical and hold less negative connotations.
Yew Tree/Mercedes taking up their Rights:
- Yew Tree/Lawrence Stroll have committed to invest £105.3m in the Rights Issue and Mercedes Benz has committed to £56.3m. They will both suffer some dilution due to £79m in equity issued to PIF, Yew Tree will control 18.3% (vs 22% now), Mercedes Benz will control 9.7% (11.7%) and PIF will control 16.7%.
- Total raised will be £575m (capital raise £78m, Rights Issue £497m).
- The potential level of dilution for existing shareholders is high. At 445p, the number of shares in circulation would more than double. The issue will take place before the end of September with a circular out in mid-August). We have used 445p (the 90-day moving average to 18 July) as a proxy for the eventual Rights Issue price.
Relationship with MB:
- We have fretted about AML having the cash to go it alone in developing an electric power unit, but this cash could go a long way towards that goal. Mercedes may need to sharpen its pencil on technology transfer now that AML has additional cash. As Mercedes is taking up its rights, it still values the relationship.
Which debt will AML look to retire?
- We expect a tender/auction above par but below the make-whole price (both bonds are in their non-call period). There are over $1bn of SSNs outstanding with a cash coupon of 10.5%, we expect the tender offer to focus here.
- SSNs: Assuming £200m nominal are acquired at 110.5 (par + Coupon), the fair value for the SSNs is 103.
- 2nd Lien: Assuming £100m are acquired at 124 (par +PIK (~15pts) + coupon), the fair value of the 2nd Lien
- We would expect AML to game the auction towards the SUNs, there are a lot more outstanding, and they will be cheaper to obtain.
Liquidity:
- AML is a luxury car manufacturer and a global recession would hurt it next year. However, it is in a much better position to have sufficient cash through the maturity of its bonds and beyond.
- After the RI, despite the additional working capital outflow, our liquidity projection for 2024 has risen to £400m from £228m in our previous analysis.
- We, therefore, do not anticipate that AML will need to raise further cash during the lifetime of the bonds.
Impact on Bond Value:
- The bonds have traded up to reflect only a small discount to the potential tender and may move again after the rights issue is done. Leverage through the SSNs would fall from 2.9x in our model to 1.5x and 2.2x through the 2nd Liens vs 4.0x previously.
- There are two ways of playing this; the fundamental investment in the bonds over the next three years for a 10% coupon and YTM and trading the rights issue to capture the discount reflecting the execution risk.
- Fundamental Investment: At par, the SSNs only offer limited convexity over the next three years which would limit the extent to which we participate in any beta when the market returns. On the flip side, however, now that substantial cash has flown into the company the SSNs at 1.5x leverage represent an opportunity to earn a steady 10% cash yield in these months of crisis. Perhaps therefore they should be on our early shopping list.
- Trading the rights issue: The RI is underwritten, and we see no reason for concern that it may not happen. So in principle, we would be ready to buy that discount too. However, we do not know the distribution of buybacks between the two bonds nor does the current bond price reflect the premium over the fair value that would make us confident that they will trade steadily after the RI is done and not sink off a few points.
Investment Considerations
- We missed the move from 92.5 to 101 the SSNs, as we had previously believed this RI would not take place. However, we take some (cold) comfort that the company’s plans did need fresh cash and that those liquidity concerns will now be significantly reduced by the completion of the rights issue (by the end of Sept}.
- With liquidity concerns pushed well back we have had a long debate, mostly on when and how much to buy of the SSNs rather than whether. Between the two issues, we are more interested in the larger SSNs. The 2nd Liens are small and the incremental yield does not compensate for the increase in leverage.
- From a fundamental perspective we think the bonds will be refinanceable at the end of their lives but lament the lack of convexity as a result. Still, earning what should be a steady 10% YTM in cash, is an attractive proposition in these volatile markets. As for trading the rights issue, we continue to debate whether to also buy that discount and therefore pull forward a potential investment and potentially make it now.
I look forward to discussing this with you all.
Aengus
E: amcmahon@sarria.co.uk
T: +44 203 744 7055