Oi SA’s proposed merger with Portugal Telecom SGPS SA is being criticized by minority investors, who see the value of their shares diluted to fund the purchase of $2 billion of debt from Oi’s controlling families.
The Jereissati and Andrade-Gutierrez families, parts of Oi’s ownership group, are refinancing their debt by selling new convertible bonds to Portugal Telecom, which will then become part of Oi.
Meanwhile, Oi is raising at least $3.2 billion by selling new shares, diluting its stock. While Oi says that new capital will help the company grow, HSBC Holdings Plc and Moody’s Investors Service say it will probably be used to pay for the purchase of the convertible bonds from the controlling owners.
After forcing Oi to pay out dividends even as it fell behind rivals on investments, the controlling shareholders are using the convertible bonds to unwind themselves from loans they got from the national development bank for the 2009 takeover of Brasil Telecom Participacoes SA, an acquisition that was designed to make Oi competitive with Telefonica SA and America Movil SAB. The rest of Oi’s investors, who get no such payout, have little recourse, with no competing offer on the table and their stock down 50 percent in the past year.
“Everyone’s protected except the long-suffering Oi shareholders,” said Leo Soong, a former Wells Fargo & Co. analyst and co-founder of Crystal Geyser Water Co., who has individually held Oi shares off and on for the past year. The transaction is “a bailout of major shareholders paid for by dilution of existing smaller shareholders,” he said.
A spokesman for Rio de Janeiro-based Oi declined to comment, as did a spokesman for the the Andrade-Gutierrez families and the controlling shareholder group, known as TmarPart. A spokeswoman for the Jereissati family declined to comment.
The transaction, announced on Oct. 2, benefits all shareholders because it will result in one class of stock, as opposed to a current combination of classes and a convoluted ownership structure through several holding firms, Oi Chief Executive Officer Zeinal Bava told Bloomberg Television on Oct. 3.
“This ends the conflict of TmarPart being in debt and needing dividends,” said Alex Pardellas, an analyst at CGD Securities in Rio de Janeiro, by telephone. “Internally, it changes nothing.”
Oi rose 1.6 percent to 3.85 reais at 10:44 a.m. in Sao Paulo. Through yesterday, the shares had dropped 10 percent since Oct. 1, the day before the Portugal Telecom merger was announced.
TmarPart and the two families are selling enough convertible bonds to Lisbon-based Portugal Telecom to be able to pay off all their 4.5 billion reais ($2 billion) in debt, including money they have borrowed from development bank BNDES, according to filings this week.
That means the debt will be absorbed into the new company formed by the merger. Oi had 29.5 billion reais in debt at the end of June, while Portugal Telecom 10.9 billion euros ($14.7 billion), according to regulatory filings and data compiled by Bloomberg. The transactions are scheduled to take place just after Oi issues new shares to raise at least 7 billion reais from the stock market, leading HSBC, Moody’s and others to conclude that the capital increase is paying for the controlling shareholder debt.
The company disputes that interpretation, without supplying an alternate explanation. The debt transactions with the control group “should not be confused with the Oi capital increase, which will be conducted through a public offer, with the objective of improving the balance sheet flexibility of CorpCo,” it said in a filing, referring to the temporary name of the combined company.
After declining last week on a call with analysts to discuss the details of the funding for the debt transaction because he said they weren’t directly related to Oi, Bava spoke again two days ago on a conference call with Soummo Mukherjee of Moody’s. He again made clear he wouldn’t provide specifics on that aspect of the merger, Mukherjee said.
“It’s not clear to a lot of analysts whether or not the 4.5 billion reais is coming from the 7 billion reais they want to raise, though that is what everyone is assuming,” said Mukherjee, who is based in Sao Paulo. “Minority shareholders are not happy about paying the 4.5 billion reais of debt belonging to the holding company.”
Unidentified shareholders of TmarPart have also agreed to join Banco BTG Pactual SA in buying 2 billion reais worth of stock in Oi’s share sale, according to Oi’s filings. The companies haven’t disclosed how much BTG and its partners will contribute individually.
Bava has said that what’s important is the end result -- a company with less debt. The company formed by the merger will have net debt of 3.3 times earnings before interest and other items, compared with Oi’s 3.4 times at the end of June, according to HSBC.
“We should be focusing on where we end up in the end, and where we end up in the end is a company with 41.2 billion reais of debt with a much, much better balance sheet than it has today,” Bava said in a conference call with analysts on Oct. 2, after repeatedly being asked about the 4.5 billion-real recapitalization and the valuation of Portuguese assets.
“You always have to follow the money,” Soong said. “The real question is who gets what at the end of the day.”
Last week, Soong filed a complaint over the fairness of the merger with the U.S. Securities and Exchange Commission, and he said he doesn’t expect the agency to approve the deal. The Bovespa stock exchange and other groups are working on better measures to protect Brazilian investors, who have had few resources to defend their interests. Minority shareholders who opposed Oi’s acquisition of Brasil Telecom lost their battle after four years of fighting.
“It’s very unlikely that this deal doesn’t happen,” said Thomas Chang, an analyst at UM Investimentos, which manages about 150 million reais. “There won’t be a problem in terms of competition with the antitrust agency, and Oi needs it.”
Investors and analysts are doing various scenario calculations given limited information, which “leaves you with a sense of not having the full picture, and that rarely makes for comfortable investors,” said Richard Dineen, an HSBC analyst.