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Builder aids stock bets against itself

Standard Pacific, in a bid to sell $100 million in bonds, is lending investors shares that will be sold promptly.

September 25, 2007|Walter Hamilton | Times Staff Writer

new york -- Normally a company might complain when speculators drive down its stock price. But home builder Standard Pacific Corp., underscoring the housing industry's woes, is helping investors place bets against its own shares.

In a deal that's so counterintuitive it almost sounds illegal -- though experts say it isn't -- the Irvine-based company said Monday that it was selling $100 million in bonds that can be converted into its stock. At the same time, Standard Pacific in effect is lending 7.8 million of its shares to buyers of the bonds, who will promptly sell the stock.

"I don't know that there is any legal barrier to doing that, but it is going to greatly antagonize your stockholders," said John Coffee, a Columbia University law professor.

Although the unusual arrangement enables the company to raise money to help it survive the brutal housing downturn, the deal is likely to hurt shareholders, at least temporarily, by depressing the price of Standard Pacific's already beleaguered stock. The shares tumbled $1.05, or 13%, to $7.05 on the news as well as on the company's announcement that it would stop paying dividends to shareholders. The stock is down 74% this year.

"Given the negative sentiment toward home builders, it's more difficult for them right now to raise money," said Matthew Wilcox, an analyst at KDP Investment Advisors Inc., a bond research firm in Montpelier, Vt. "And this is probably about as good a situation as Standard Pacific could get to raise additional capital."

Other housing stocks also fell Monday, sending a Standard & Poor's index of builder stocks down 5.2%.

Standard Pacific executives couldn't be reached for comment.

It's not unusual for investors who buy convertible bonds to simultaneously sell the company's stock in a so-called short sale.

A short sale is a wager that a stock price will fall. Investors borrow shares, usually from a brokerage, and immediately sell them, hoping that they can give back the shares by buying the stock later at a lower price.

Investors in convertible bonds often sell the issuer's stock short to cut the risk of owning the bonds. If the company's financial condition worsens, depressing the value of both the stock and the bonds, the investors limit their losses on bonds with profits from betting against the stock.

On the other hand, if the stock price rises, the investors can convert their bonds into stock at a favorable price. Their profit on the conversion, however, is at least partly offset by a loss on the short sale.

Normally, short sellers locate shares to borrow without the help of the company. But as the housing crisis has deepened, the number of Standard Pacific shares sold short has soared to more than a third of the total outstanding. As a result, investors who want to short the stock are having trouble finding shares to borrow.

So to encourage investors to buy its bonds, Standard Pacific agreed to lend shares that could be sold short, hedging the risk taken on by buyers of the bonds. Those sales could push the number of the company's shares sold short to more than half the total outstanding.

The bonds were priced Monday night and are expected to begin trading today.

It is rare but not unprecedented for a company to provide shares for short sales, experts said.

Even though the sales may push down Standard Pacific's stock price, the company -- and by extension its shareholders -- may be better off in the long run if the financing helps the builder weather the housing plunge.

"The defense for all this is that by selling [the bonds] you're raising capital for the company, and by raising capital you are averting the prospect of insolvency that might otherwise loom," Columbia Law School's Coffee said.

John Buckingham, chief executive of Al Frank Asset Management in Laguna Beach, which owns Standard Pacific shares, agreed.

"Am I happy about it? No," Buckingham said. "But it beats the alternative."


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