Description

Cenveo (NYSE:CVO) is one of the US’ largest commercial printers, with annual revenues of ~$1.9bn.  The Stamford-based Company, a product of many acquisitions (e.g. roll-up), is run by Rob Burton Sr, a former commercial printing executive who took control of CVO in 2005 via proxy fight.  While I have relatively strong views on (i) the quality of CVO’s operations relative to other commercial printers (they are better, but not ‘that much’ better), (ii) the longer-term trends in every one of CVO’s business lines (they are not great, despite management’s assertions and claims of ‘organic growth’) and (iii) the Company’s equity value (how is this business worth >6.5x again?), this write-up focuses entirely on the capital structure. 

Specifically, Cenveo’s recently announced tender offer presents asymmetric capital structure arbitrage opportunities.  See below for the Company’s current capital structure (everything, outside of the bank debt, has traded up 15 points over the last few months). 

As you can see, Cenveo is certainly levered, but unlike peers RR Donnelly (NYSE:RRD) and Quad Graphics (NYSE:QUAD), Cenveo’s capital structure is quite complex.  More specifically, I offer brief descriptions of each tranche of debt below. 

• $503mm first lien credit facility, comprised of (i) $150mm (undrawn) revolver, (ii) $353mm term loan B.  This syndicated loan is led by BofA, and with 6.25% pricing (LIBOR floor of 1.50% plus 475bps spread) trades at par.  The first lien credit facility has mandatory amortization requirements and maintenance covenants (senior leverage, total leverage, fixed charge coverage).
• $400mm second lien notes.  These were issued in early 2010, as a means to delever the first lien credit facility.  These notes have a 3.75x permitted liens basket.
• $170mm senior notes.  These were issued in June of 2008, as financing for one of CVO’s larger acquisitions (consummated right before the economy fell apart).  These notes limit CVO’s ability to refinance subordinated debt (in place at the time of the offering) with pari passu debt (more on that later).
• $310mm senior subordinated notes, comprised of two individual notes (due in December 2013 and June 2014).  Obviously the inside maturity, these notes are driving the Company’s proposed tender offer.  

Cenveo’s proposed tender offer looks to refinance all of the Company’s senior ($170mm) and subordinated ($310mm) notes.  This is a necessary step, given the looming 2013 maturity, and, in my view, questionable earnings growth prospects (or at the very least, limited capital structure flexibility).  Incremental secured debt (recall they took down bank exposure meaningfully in 2010, they have 3.75x permitted liens covenant on seconds) capacity is minimal.  The Company must find a way to refinance the subordinated notes, however, investors are unlikely to buy a subordinated financing so long as the senior notes remain outstanding.  Importantly, so long as the senior notes remain outstanding, the Company must finance subordinated debt with ‘like-for-like’ (e.g. additional sub debt) securities.  If you have the 10.5% indenture, the relevant section I’m referencing is Permitted Refinancing Indebtedness (iii). 

The Company’s capital structure would be much improved via a refinancing of the senior (2016) and sub (2013 & 2014) notes.  I believe a deal can and will get done here, but that the proposed financing makes little sense.  The senior notes, which are call-protected through August of 2012 @ 105.25 (equivalent call price of 110), have meaningful blocking value here.

Put another way, holders of the senior notes are getting hosed in the proposed tender.  I believe the Company decided (or received advice) to throw out a low-ball offer (10 points below the call price) just to see if it worked.  They need 50.1% of holders ($85.2mm) in order to strip the senior notes’ restrictive language.  While I have no great color as to how the tender is going (just announced last Wednesday – Fidelity is a major player, with 23% of senior notes and 13% of the 2013 sub notes), I believe the proposed trade offers true asymmetric returns.  Consider the following set-up at 1.00x ratio:

This is not the sexiest idea in the world but, but I see little to no downside here, and very high returns on net capital in a short period of time (they are extremely focused on getting a deal done this spring, after they waited way too long last year (and markets fell apart)).  Probability weightings, of course, are subjective – but I think the Company is very likely to revise the tender offer.  A sub-for-sub deal is likely to come at a 300-350bps premium (relative to an all senior deal), meaning the Company’s payback period (on the 10 points of call premium) is less than two years.  More importantly, an all senior deal would greatly simplify the capital structure and maturity cadence. 

Any and all pushback is encouraged.  Happy, of course to delve into details as to the Company’s history, pro forma business mix or the management team, but for the purposes of this write-up I’ve focused purely on the capital structure.  I’ve given direct feedback to the management team and BofA (dealer manager), and would encourage other like-minded holders to do so (if you agree). 

Risks 

• The primary risk here (depending on how you put this on) is that holders of the 10.5s take an un-economic deal in order to protect their interests in the subordinated notes.  I do not know how to handicap this risk but am working to (i) get more color and (ii) make sure that this thesis gets ‘out there’.
• Theoretically, you will lose money if the deal falls apart, however, if you hedge this on a 1.00x ratio you will do very well.  It has become (much more) apparent that the Company is intent on a refinancing in the very near-term, and the Company must address the 10.5s in order to refinance the subordinated notes.
• Liquidity is a risk, only in terms of this being a relatively small capital structure.  We’ve been able to put this on over the past few days and most distressed desks trade this fairly regularly.

Catalyst