Pleasantly surprised by the strong demand for its bonds, the company sold $650 million worth. To Purkis, this success "raised the barrier to entry in this space," as the convertible bond market has become much tougher since then. After paying down $145 million in short-term debt, the company is using the rest of its winnings to finance its expansion.
E-Trade was one of 34 convertible bond issues by Internet-related companies over the past two years raising more than $13 billion. These securities appear to be well suited to such businesses, because they offer a way to issue stock for the price of a relatively low interest rate and a good deal of flexibility in terms. Even though most of the issuers' stocks are now in the dumps, delaying conversion of the bonds into stock and the resulting reduction in interest costs, the issuers are paying rates that are generally 400 to 700 basis points lower than those of straight bonds. What's more, most have several years to go before the bonds mature, giving the stocks lots of time to recover.
On the other hand, there's always the risk that they won't--at least for a long time--forcing the companies to pay more interest than they had anticipated. In issuing convertibles, "you're betting on your common stock," says Ravi Suria, a convertible securities analyst at Lehman Brothers. "If the stocks had gone up [since issuance], the bonds would have been converted by now." It's no secret that investors have turned skeptical about dot-com business models. That increases the risk that a convertible issuer's debt load will prove too heavy.
Take Beyond.com Corp., a Sunnyvale, California, builder and operator of Web stores for businesses. In November, it issued $55 million in convertible bonds, and by the end of this past summer the Nasdaq National Market had warned the company that it no longer met the standard for net tangible assets and could soon be delisted. Fortunately, in September, the company managed to accomplish an exchange offer that reduced the principal on its 2003 convertible bonds by $21 million and gave it the option of paying interest in stock. In the exchange, bondholders received securities with a higher interest rate (a whopping 10.88 percent versus 7.25 percent) and a lower conversion price ($2.88 versus the previous $18.34). Recently, the stock was trading well below $1.
