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Cash not stock for GM

General Motors says it will use cash, not stock, to pay down about $8bn (£4.38bn) in bonds known as contingent convertible options to combat the dilutive effect on its earnings threatened by new accounting rules for the instruments.

Last month, GM revealed its earnings would be reduced by $1 (£0.55) per share, or 15% of the carmaker’s target for the year, by new accounting rules for the increasingly popular type of bond expected to come into force this winter.

Although the accounting has no direct economic impact on GM the carmaker has been worried about “significant impact on investor perceptions of earnings”.

John Devine, chief financial officer, said GM had found a solution to the problem that would meet the requirements of the Financial Accounting Standards Board, which oversees US accounting.

“GM would waive its right to issue stock to settle at least the principal amount of debt,” Devine told the Management Briefing Seminars, an annual automotive conference in Michigan. “This means we would use cash rather than stock and significantly limit the dilutive effect. As our stock price increases there would be some dilution, but a lot less than a dollar .”

GM is the largest issuer of the so-called “co-co” bonds, with over $8bn (£4.38bn) outstanding. The world’s largest carmaker has argued that the change to the treatment of contingently convertible bonds would confuse investors, and GM would not have issued them if it had known it was coming.

The size of any earnings per share (eps) impact would likely have slowed the rapid growth of the $124bn (£68bn) market for co-cos, which can be converted into equity if the share price reaches a certain level above the conversion price. Devine said the issue of co-cos was “something that we in the US have to spend a lot off attention to going forward”.

The FASB asked last month for comments on draft rules which would force companies to include co-cos in diluted earnings per share calculations, treating them the same as ordinary convertible bonds.

Devine said last week he was disappointed that all co-cos would be included equally in the diluted eps figure, “even though they may be 10 years out and very high exchange numbers.”

GM’s biggest co-co, a $4.3bn bond issued as part of a $13.5bn (£7.4bn) cash call last year to fund the pension scheme, cannot be converted until 2033, while others require the share price to almost double. Devine expects the new rules to come into force towards the end of the year. Net income would be unaffected.

Co-co securities were first introduced in 2000 and have become popular because of their accounting advantages. They make up the bulk of new issuance in the convertible market, but will be far less attractive under the new rules.

There are more than 300 convertible securities with a market value of $124bn (£68bn) outstanding, according to Merrill Lynch.

The top five issuers of co-co bonds so far this year are Citigroup, Credit Suisse First Boston, Deutsche Bank, Bank of America and JP Morgan, according to Thomson Financial.


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