Quebecor World Preferreds IQW.C
November 22, 2006 - 9:18am EST by
andrew152
2006 2007
Price: 23.80 EPS
Shares Out. (in M): 0 P/E
Market Cap (in $M): 175 P/FCF
Net Debt (in $M): 0 EBIT 0 0
TEV ($): 0 TEV/EBIT

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Description

The purchase of Quebec World Inc.’s 6.9% Cumulative Redeemable First Preferred Shares, Series 5, represents a modest return investment opportunity, albeit with some risk (symbol IQW.C on TSX). Please note that stock price information is in Canadian dollars and corporate financial information is in US dollars. 
 
These preferred shares essentially have a yield-to-maturity of 11% to 12% with maturity being in just over one year.  Please see below for details.
 
Quebecor World is a world leader in providing high-value, complete print solutions to leading publishers, retailers, catalogers and other businesses with marketing and advertising activities.  It is a market leader in most of its major product categories which include magazines, inserts and circulars, books, catalogs, direct mail, directories, digital pre-media, logistics, mail list technologies and other value added services.  The Company has approximately 29,000 employees working in more than 120 printing and related facilities in the United States, Canada, Argentina, Austria, Belgium, Brazil, Chile, Colombia, Finland, France, India, Mexico, Peru, Spain, Sweden, Switzerland and the United Kingdom.
 
Quebecor World’s Series 5 Preferred Shares currently yield 7.2% (i.e. current yield) which represents a dividend of $1.725 Canadian versus a stock price of $23.80 Canadian. 
 
In addition to this current yield, the Company has the option to redeem these shares starting December 1, 2007.  The exact language in the prospectus is as follows:
 
On and after December 1, 2007, Quebecor World Inc. may on 30 days’ prior notice redemm for cash the Series 5 Preferred Shares, in whole or in part, at the option of the Company, at $25.00 per share plus accrued and unpaid dividends or may, on 40 days’ prior notice, subject to stock exchange approvals, convert all or any of the Series 5 Preferred Shares into fully paid and non-assessable subordinate voting shares of the Company (the “Subordinate Voting Shares”).  The number of Subordinate Voting Shares into which each Series 5 Preferred Shares may be so converted will be determined by dividing $25.00 together with all accrued and unpaid dividends at the date of conversion by the greater of $2.00 and 95% of the then Current Market Price of the Subordinate Voting Shares.
 
So, in essence, if the Company redeems the preferred shares in just over a year, the yield to redemption is 12.2%.
 
More importantly, if the Company doesn’t redeem the shares, starting March 1, 2008, the holders of the preferred shares can exercise a soft retraction provision.  The language from the prospectus is as follows:
 
On and after March 1, 2008, each Series 5 Preferred Shares will be convertible at the option of the holder on the first day of March, June, September and December of each year on at least 65 days’ prior notice into that number of fully paid and non-assessable Subordinate Voting Shares determined by dividing $25.00 together with all accrued and unpaid dividends to the date of conversion by the greater of $2.00 and 95% of the then Current Market Price of the Subordinate Voting Shares.  If a holder of Series 5 Preferred Shares elects to convert any of such shares to Subordinate Voting Shares, the Company may on at least 40 days’ notice prior to the conversion date elect to redeem such shares for cash and/or arrange for the sale of such shares to substitute purchasers.
 
In other words, if an investor retracts his shares back to the Company, the yield to retraction is 11.1%.
 
The opportunity to invest in Quebecor World’s preferreds with a short term to maturity could be characterized as a mezzanine type investment with a short time horizon.  This compares to Quebecor World’s short-term bonds (November, 2008) which trade at a yield to maturity of 6.5% and their 2016 bonds which trade at a yield-to-maturity of 9.1%.
 
The preferreds rank in priority to the Multiple Voting Shares and the Subordinate Voting shares and are pari passu with the other series of preferred shares, but lower than Quebecor World’s debt.
 
The investment opportunity has come about due to issues arising in the print business and their impact on Quebecor World.  Though it is difficult to ascertain the long-term future of the printing business, it would appear that the printing business should be around one year from now when the preferreds mature.  Though printing industry fundamentals remain challenging, the Company has embarked upon a 5-Point Transformation Plan to drive revenue, improve profitability and strengthen the balance sheet.  Specifically, Quebecor World is targeting $300 million in incremental revenue from providing value-added services by year-end 2008.  The Company has also identified productivity improvement programs that will be deployed across its entire platform and are forecast to yield at least $100 million of annual cost savings by 2008.  Further details of the Transformation Plan can be obtained from the Company’s website.
 

Analysis of the Preferred Shares

 
Quebecor World’s capital structure as at Sept. 30, 2006, is as follows:
 
Total debt                     $2.139   billion US (includes $117 million in converts due in 2007)
Securitized A/R            $0.553   billion US
Total                            $2.69 billion US
 
Preferreds                    $0.326 billion US
 
“Common” Equity   $1.6 billion US
 
 
1) From the above capital structure, one area of comfort comes from the fact that below the preferreds, there is $1.6 billion US of equity.
 
2) Furthermore, consensus EBITDA estimates for 2007 are $644 million US, implying a debt (excluding preferreds but including the securitized receivables)/EBITDA ratio of 4.18x (high, but manageable, assuming no further substantial decreases in EBITDA).  Excluding both the preferreds and the securitized receivables, debt/EBITDA is 3.3x.  Also, EBITDA/Interest is 4.2x LTM.
 
3) After 2007 (i.e. starting in 2008), Quebecor World’s large capex program should end and estimates are for capex in the range of $250 - $275 million US per year versus $350 - $400 million US currently.
 
4) In the year 2000, revenue was $6.5 billion US versus $6.3 billion US in 2005.  On the other hand, EBITDA has declined as follows:
 
                                                2006E            2005            2004            2003            2002            2001            2000
EBITDA (in US$ millions)            $577            $689            $838            $731            $863            $935            $1,070
 
Another source of support for the preferreds would be that the result of the capital expenditures and the Transformation Plan are increased EBITDA margins over those implied by consensus estimates (the Company’s margins are below those of its competitors – its consolidated EBITDA margins were 9.7% in Q3/06 versus R.R. Donnelly at over 16%), but the investment should work even if EBITDA stays in the $600 million US to $700 million US range.
 

Debt Maturity

           
In terms of debt maturities, the Company has $150 million US of public debentures due in January 2007 and $117 million of convertible subordinated notes due in October 2007 (for a total of $267 million US).  In 2008, other than the preferreds ($114 million US) which are due in March 2008, the Company has $219 million of Senior Notes due in November 2008.  Around $485 million US is due in 2009 (including the bank credit facility described below) and approximately $190 million US in 2010.
 

Liquidity

 
As at September 30, 2006, the Company had $685 million US available on its $1 billion US bank credit facility which matures in January 2009 (it has used $315 million US).
 
It should be noted that in March 2006 the Company was able to complete a $450 million notes offering maturing in 2016 with an 8.75% coupon.  The Company also redeemed its Series 4 Preferred Shares in April 2006 for cash (total consideration of $176 million US).
 

Financial Covenants

 
Quebecor World’s bank facility contains 3 financial covenants:  maximum debt to capital ratio of 60%, a minimum EBITDA interest coverage of 3.5x and maximum debt to EBITDA ratio of 4.0x until year-end 2007 and 3.75x thereafter).
 
Based on the LTM results these calculations are 51% (debt to capital), 3.6x (debt/EBITDA) and 4.2x (EBITDA/Interest).
 
Though compliance under these covenants is tight, things should improve in 2007 as the Company begins to realize the benefits of its Transformation Plan.
 

Risks

 
1)      Though it would appear that EBITDA is bottoming out, there is no guarantee that this is the case.  The printing industry and/or the Company could deteriorate further.
2)      For both retraction and redemption, there is a 20-day pricing period relating to the receipt of subordinate voting shares which may result in the $25 maturity value not being achieved.  There is also a similar risk if the price of the subordinate voting shares are below $2.
 

Catalyst

 
- The passage of time until the redemption/retraction date.
 
 

Catalyst

- The passage of time until the redemption/retraction date.
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