CI Financial Corp. CIX-T paid a steep price to win a $1.34-billion backstop from institutional investors, and shares in the asset management company sold off Friday as investors figured out terms of the financing.
On Thursday, debt-heavy CI sold preferred shares that represent a 20-per-cent interest in its U.S. wealth management business to a group of investors that includes Bain Capital, Ares Management and an arm of the Abu Dhabi Investment Authority. The company postponed previously announced plans to sell a portion of its U.S. subsidiary in an initial public offering.
Toronto-based CI said the transaction valued its U.S. subsidiary at $6.7-billion, or three times the total market capitalization of the entire company, which also includes its legacy Canadian asset management business. The company did not disclose terms of the preferred share offering in its news release on Thursday. After the deal was announced, CI’s share price initially jumped by 50 per cent.
But on Friday, CI shares dropped 17 per cent to close at $12.75 on the Toronto Stock Exchange, in line with the stock price prior to announcement of the deal.
In a regulatory filing Thursday, CI said that if a future IPO doesn’t meet certain conditions, including size, the company has guaranteed the buyers of the preferred shares a new, higher value for them.
That value increases over time, giving CI an incentive to take the U.S. wealth business public sooner. In three years, the new “stated” price of the preferred shares will jump to 150 per cent of their original price – or a total of $2-billion. It will continue to grow after that, and in six years, it will be 225 per cent of the original price, or $3-billion.
That means the new capital could cost CI at least 14 per cent annually, each year it remains in place.
The buyers of the debt also have the right to force an IPO or sale of the U.S. wealth business within five years and nine months after the closing.
In a conference call on Thursday, CI chief executive Kurt MacAlpine said the company set the terms of the preferred shares “at a valuation that’s fair, recognizing the complexity of being inside of a public company as a minority subsidiary business.”
On Friday, after reviewing the structure, analysts said terms of the preferred share offering mean CI’s common shareholders will see their stake shrink in the company’s U.S. wealth unit, a core business with approximately $130-billion of client assets.
In a report published Friday, analyst Tom MacKinnon at BMO Capital Markets forecast that over next three to six years, CI shareholders could end up owning 55 to 60 per cent of the unit, down from their current 80 per cent holding. Mr. MacKinnon downgraded his outlook for the company.
“The longer CI waits to IPO its U.S. business or provide a liquidity event for the the preferred share investors, the more this instrument will cost,” said analyst John Aiken at Barclays in a report. He also downgraded CI.
“The unusual structure of the deal means that the investor group gets to participate strongly in the upside of any liquidity event but puts downside risk on CI’s eventual repayment, should an IPO or deal not be reached,” said Mr. Aiken.
Spokespersons for CI did not respond Friday to requests for comment on the preferred share financing.
CI will use the cash raised from the preferred share sale to pay back loans that funded a series of acquisitions over the past four years, including the purchase of more than 30 registered investment advisory businesses in the United States. In total, CI has spent $2.85-billion in cash, stock and estimated future payments to build its U.S wealth management arm.
The high debt levels prompted S&P Global Ratings to cut CI’s debt rating to junk status last month. The company had previously requested that the agency withdraw its rating, which it did after the downgrade.
On Thursday, CI announced it will use proceeds from the preferred share offering to repurchase $1-billion of debt that pays interest rates ranging from 3.215 per cent to 3.904 per cent, and matures from 2024 to 2027.
Mr. Aiken said if the preferred shareholders do end up with a significant stake in the U.S. wealth business, “we view it as detrimental to common shareholder value as the obligation is at a much higher implied rate than the tax deductible debt that it is expected to replace.”
One of CI’s new preferred share owners, Los Angeles-based Ares Management, said in a regulatory filing that it plans to hold the securities in its credit funds.
Mr. Aiken said: “We believe that some investors will chose to view this instrument as debt.”