Emaar Bondholders Seek Exchange Beating 70% Returns: Arab Credit

Investors who bought Emaar Properties PJSC’s convertible bonds in the midst of Dubai’s real estate crisis three years ago are triggering an exchange that would generate returns of more than 70 percent.

Emaar’s board will meet today to approve the conversion as required by statute, a spokesperson said by e-mail yesterday. The $500 million bond due in 2015 would be exchanged at a price of 4.38 dirhams. The stock was priced at 7.1 dirhams as of 1:38 p.m. today.

Emaar, which built the world’s tallest tower, almost doubled in Dubai trading this year as the retail, tourism and housing markets rebounded. The conversion would lead to the creation of around 420 million new shares, representing a 6 percent to 8 percent dilution of existing holders, Taher Safieddine, an equity analyst at Shuaa Capital PSC, estimated.

“Investors who bought the bond at issuance would be rewarded handsomely for taking on the risk when Dubai looked to be down and out,” said Julian Bruce, head of institutional trading at EFG-Hermes U.A.E. Ltd. in Dubai. He estimated total return of more than 74 percent, which is “very good by anyone’s standards.”

The total return would include coupon payments that have already been collected, on top of the conversion rate.

Stock Gains

Bondholders have had the right to call for the conversion since Jan. 30, 2011. Emaar’s stock has gained 130 percent since then. The developer would first gain the ability to force a conversion on Dec. 20, allowing the company to pay the bond back at face value rather than issuing the shares.

“Typically an investor doesn’t convert until the last day because it’s in his benefit to delay as much as possible,” said Abdul Kadir Hussain, chief executive officer of Mashreq Capital DIFC Ltd. “However, issuers of convertible bonds put these provisions in because they don’t want to give the investors a free ride forever.”

While the bondholders instigated the swap, it would also benefit Emaar through a reduced debt burden and lower interest costs, Shuaa’s Safieddine said. The bond pays 7.5 percent interest annually, representing about 5 percent to 6 percent of the developer’s estimated 2013 net income, he said.

“This is a win-win situation,” Mashreq’s Hussain said. “For Emaar, the conversion makes perfect sense because it would remove debt from the balance sheet. For investors, the fully diluted earnings per share would take into account the conversion of this bond, so it wouldn’t have an impact.”

Price Targets

The bondholders could either opt to sell the shares to realize an immediate gain or bet on their continued rise. Goldman Sachs & Co. analyst Eyad Faraj has a 12-month Emaar price estimate of 8.85 dirhams, while JP Morgan Chase Bank’s Muneeza Hasan predicts of 8.5 dirhams. Mohammad Kamal, a real estate analyst at Arqaam Capital Ltd., rates the developer “buy” with a price target of 9 dirhams, data compiled by Bloomberg shows.

Even after the gains this year, Emaar shares are far short of the peak of 15.70 dirhams at the start of 2008. While the company avoided losses suffered by most of its peers, net income plunged in the two years prior to the 2010 bond sale when Dubai property values dropped as much as 65 percent.

While a conversion dilutes the holdings of existing investors, the prospect of earnings growth may reduce its significance. Emaar is expected to report full-year net income of 2.3 billion dirhams ($634 million), according to the mean estimate of 12 analysts in a Bloomberg survey. The figure was 2.1 billion dirhams last year.

Growth Prospects

The share gains show investors are more optimistic about the company’s growth prospects than concerned about possible dilution, Safieddine said.

“The shares are continuing from strength to strength, especially with the possibility of a spinoff of the malls and new project sales as well as work with key players in the market for the World Expo 2020,” he said.

Dubai won the right to host the exhibition on Nov. 28. Emaar Chairman Mohamed Alabbar said in November that the company is considering spinning off its retail business.

For bondholders, no longer receiving a coupon is insignificant because most investors holding the security are now looking to gain access to the stock, Hussain said. The bonds and the shares will probably move on a one-for-one basis from here on and a conversion would merely provide a “cleaner” and “more direct” exposure to Emaar’s equity, he said.

Some fund managers may opt to sell the shares to realize profit before closing the books this year and to avoid dilution, Shuaa’s Safieddine said.

“Any retreat or weakness in the share price will bring in new buyers who see an attractive entry point,” he said. “After all, the fourth-quarter is typically a very strong quarter for the company.”

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