On Sept. 29, Sofi Technologies (NASDAQ:SOFI) priced and closed a $1.1 billion convertible senior note offering. However, it has a slightly unusual feature. The price was set at 40% more than the SOFI stock price of $16.01 on that date. That could imply that SoFi, bankers and investors in the notes feel strongly that SOFI shares could move higher.
In my last article, I argued that SOFI stock could rise at least 30% more, especially if you take into account analysts’ price targets. That would put it between $23.83 and $24.50 per share.
So it is interesting that the convertible notes just issued to institutional investors also have a conversion price of $22.41 per share. This is very close to the price targets of various analysts.
The convertible noteholders might have felt that setting the conversion price too low, or at the normal 30% premium, could lead to a conversion being triggered. In a sense, then, the 40% premium is something of a bullish signal for SOFI stock.
Why This Matters for SoFi
Institutional investors in convertible notes want to be able to earn interest as long as possible. Therefore, they set the conversion premium at least 30% higher than the stock price. In this case, it is at a 40% premium.
So the company and the noteholders figure that price won’t be reached, even though a 30% higher price might be triggered.
Investors in SOFI stock can also benefit from the fact that it now has plenty of cash to cover cash flow shortfalls as the company grows. However, there will be interest charges, so that implies the company uses the cash it has to cover the interest.
But that is also a boon for SOFI. The convertible notes offering’s interest rate is set at zero percent — yes, you read that correctly. The investors in the notes simply wanted SOFI to hold on to their cash, and later pay it back.
This is an extremely bullish sign. The only real benefit seems to be the conversion feature. Now, they have the right to convert the $1.1 billion into shares at a price that is 40% higher than today.
For example, normally convertible noteholders will take a slightly lower coupon rate for their investment compared to straight secured note owners. That is because they have the right to both collect interest and also eventually convert their notes into shares.
But in this case, they are left with just the conversion right. Or, to put it more clearly, SoFi is so strong a credit and there was so much wrangling to own the notes that the company forced a zero-coupon rate.
So now we have two unusual features, both of which point to a potentially higher stock price for SOFI stock.
What Investors Should Do With SOFI Stock
Earnings from last quarter resulted in a positive EBITDA of $11.2 million compared to a loss last year. If this continues in the current quarter, expect to see SOFI stock move higher.
On the other hand, Sofi produced operating cash flow of $82.6 million for the six months ending June 30. After subtracting $26.8 million, the free cash flow (FCF) for that period was $55.8 million. So why does the company need to borrow money?
That issue normally would not come up if the company was burning through cash. This might imply Q3 ended up with negative FCF and had to be financed with a new convertible note. Let’s hope that’s not the case.
On the other hand, the company might be considering making an acquisition, and the cash would be useful for that.
Investors in SOFI stock will learn what happens in Q3 fairly soon. But I would argue that this convertible note is a bullish sign for the stock.
On the date of publication, Mark R. Hake did not hold a position in any security mentioned in the article. The opinions expressed in this article are those of the writer, subject to the InvestorPlace.com Publishing Guidelines.
Mark Hake writes about personal finance on mrhake.medium.com and runs the Total Yield Value Guide which you can review here.
