Conseco Moves to Shore Up Cash Position, but Terms Are Steep

Thomas H. Lee gets $500 million in preferred stock at a scant premium.
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Conseco's (CNC) - Get Report plans to raise money to make payments on its debt have some investors asking one question: Is this enough?

Two investors who have long had doubts about Conseco's cash flow think the cash boost from the actions, disclosed Tuesday, will be fleeting, meaning the company could run low on cash as early as the first quarter.

Conseco: Join the discussion on our

message boards. Conseco, an insurance and subprime lender, has almost certainly secured one benefit: a ratings upgrade from

Moody's Investors Service

. Moody's said Tuesday that it had put the debt of Conseco and its subsidiaries, currently rated Ba1, on review for a possible upgrade.

It was this notice from Moody's that helped drive Conseco's stock up 1 11/16, or 9.1%, to close at 20 1/4 Tuesday on heavier-than-average volume.

The company didn't respond to requests for comment.

Getting Bold Things Done

So what has Conseco, whose liquidity problems


examined, actually done?

First, it has agreed to sell $500 million of convertible preferred shares to

Thomas H. Lee

, the Boston-based buyout company.

Second, it plans to cut its quarterly dividend to 5 cents a share from 15 cents, starting in April 2000, which will save around $120 million a year. And the company says it's going to slow lending by its subprime finance unit

Green Tree

. With the reduced revenue from Green Tree and the implied dilution from the convertible issue, Conseco now says it will likely earn $2.80 per share in 2000, down from its previous forecast of nearly $3.

The proceeds from these moves are going to be "used to pay down debt at the corporate level," Stephen Hilbert, Conseco's chairman, said during the company's conference call Tuesday. By "corporate level," Hilbert means Conseco's parent company, where most of the company's borrowings are made.

Hilbert conceded that cutting the dividend was "a difficult decision to make." But he added that the company has "a capital structure that is self-sustaining going forward." Hilbert said that parent company's cash inflows had more or less equaled its outflows, but with the changes, it would be taking in twice as much as it spends by the beginning of next year.

Conseco doesn't provide parent company cash-flow data. In the third quarter, the company said its consolidated cash flow was $459 million, up 178% from the year-earlier period.

The Lemon Song

But two investors think Conseco still faces a liquidity squeeze.

"Finally, the company has admitted that it has a liquidity problem," says a New York fund manager who requested anonymity. Tuesday's initiatives "will only buy them a quarter. They'll have to do some sort of other transaction early next year," he says. (The fund manager has sold Conseco shares short, a position that would allow him to profit if the shares declined.)

"Conseco's thrown in the towel," says another fund manager who requested anonymity and declined to say what position, if any, he has in Conseco. The money Conseco aims to raise "will hardly make life any easier for the company."

Both fund managers think Tuesday's announcements support their contention that the parent company has no spare cash. In particular, the terms of the convertibles sold to Thomas H. Lee were very tough on Conseco, suggesting Conseco was backed into a corner, they say.

Unlike most convertible deals, in which the conversion price is usually set around 20% to 25% higher than the stock price on the issue date, Thomas H. Lee's conversion price ($19.25) was a mere 3.7% above Monday's closing price. And at Tuesday's close of 20 1/4, if Thomas H. Lee converted, it would make an immediate 5% profit.

"Thomas Lee really stuck it to them," says an analyst at a Wall Street investment bank who wished to remain unidentified. Hilbert disputes that assessment. These are "not onerous terms at all," he said on the conference call. Thomas H. Lee declined to comment.

The investors point to another announcement Tuesday to support their claim that Conseco was lacking cash. During the conference call, the company said it was extending the maturity of a $90 million loan from

Warburg Dillon Read

to June 2000 from Dec. 15.

Debt levels are still too high, says the fund manager who declines to discuss his position in Conseco. By changing how it calculates its debt burden, Conseco upped its parent company debt-to-equity number to 43% in its Tuesday press release from 19% in its third-quarter earnings release. But the latest figure still doesn't reflect the true extent of Conseco's debt, this fund manager says.

In its 43% figure, Conseco is failing to include $1.54 billion of parent company debt that has been lent on to Green Tree, Conseco's lending arm, he says. With that extra parent company debt, the Conseco parent really has a debt-to-equity ratio of 58%, he calculates.

Onward and Upward

But Moody's insurance analyst Patrick Finnegan says it's wrong to attribute that debt to the parent company. "We think the company is moving in the right direction now," he says. Finnegan says he thinks the parent company is capable of achieving Hilbert's early-2000 goal of taking in twice as much cash as it spends.

Other observers see Thomas H. Lee's investment as a positive development, particularly as Lee's President David Harkins is going to join Conseco's board. Lee has made successful investments, including one in credit card company




But Lee has also made questionable outlays recently. Shares in

Wyndham International


have dived nearly 90% since Lee took a stake in the company in March.

"Lee isn't infallible," says the fund manager who wouldn't disclose his Conseco position.