Avon Products (AVP) recently issued $1.5B in new bonds, including 2043 notes with a 6.95% coupon. The company's stock hit a multi-year low of $13.81 in November 2012 after Avon slashed its dividend and has since rebounded to $20.39.
The company currently has a Baa2 credit rating and stable outlook. To put Avon's new 30-yr bonds into perspective, they yield slightly more than junk rated Neiman Marcus bonds due in 2028.
Take a look at how Avon's new bonds compare to A2 rated Estée Lauder Cos (EL) bonds:
|credit rating||dated date||price||yield|
|Avon Prods Inc Sr Nt 6.95% 2043, Cond Put Change Of Control, Make Whole Call (cusip: 054303AZ5)||Baa2/BBB-||03/12/2013||102.25||6.77%|
|Neiman Marcus Group Inc Sr Deb 7.125% 2028, Make Whole Call (cusip: 640204AB9)||B2/B+||05/27/1998||104.00||6.7%|
|Avon Prods Inc Sr Nt 5% 2023, Cond Put Change Of Control, Make Whole Call (cusip: 054303BA9)||Baa2/BBB-||03/12/2013||102.76||4.65%|
|Estee Lauder Cos Inc Sr Nt 3.7% 2042, Cond Put Change Of Control, Make Whole Call (cusip: 29736RAF7)||A2/A||08/02/2012||92.18||4.16%|
|Avon Prods Inc Sr Nt 4.6% 2020, Cond Put Change Of Control, Make Whole Call (cusip: 054303AX0)||Baa2/BBB-||03/12/2013||103.84||3.96%|
|Avon Prods Inc Nt 6.5% 2019, Cond Put Change Of Control, Make Whole Call (cusip: 054303AW2)||Baa2/BBB-||03/02/2009||113.54||3.92%|
|Estee Lauder Cos Inc Sr Nt 2.35% 2022, Cond Put Change Of Control, Make Whole Call (cusip: 29736RAE0)||A2/A||08/02/2012||96.93||2.72%|
Notice the Estée Lauder bonds are rated higher and are trading under par. Though the Avon bonds were just issued they are currently trading slightly over par. All of the bonds listed above have "make whole call" features, the Avon and Estée Lauder bonds also have conditional put "change of control" features. Avon's new 8-K states:
The terms of the Notes also require the Company to make an offer to repurchase the Notes upon a change of control triggering event at a price equal to 101% of their principal amount plus accrued and unpaid interest.
Avon: Interest Rate Adjustment
The prospectus states the bonds' interest rate will go down if Moody's or S&P raises their rating and up if Avon's credit rating is lowered. The adjustment schedule is as follows:
If the rating from Moody's (or any Substitute Rating Agency therefor) of the Notes is decreased to a rating set forth in the immediately following table, the interest rate on the Notes will increase such that it will equal the interest rate payable on the Notes on their Issue Date plus the percentage set forth opposite the ratings from the table below:
|B1 or below||1.00%|
... the interest rate on the Notes will be decreased such that the interest rate for the Notes equals the interest rate payable on the Notes on their Issue Date plus the percentages set forth opposite the ratings from the tables
Potential investors who do not understand this provision may be surprised if their bonds start to pay less (or more) due to a rating change. This also underscores the importance of thoroughly reviewing prospectuses.
6.7% Sounds Good, But It's Avon
New 6.95% coupon, investment grade bond issues are a rarity given current low interest rates. Some foresee an end to historic low interest rates, and the potential for the so-called "bond bubble" to burst. Though some investors are looking for quality and yield in moderation.
Investors must decide whether Avon is worth the risk. The company's EBITDA and net income took a big hit last year. The company is strapped with debt, and recently took a $209M write-down. Avon's beauty supply sales dipped last year, though Latin American sales went up.
Take a quick look at Avon compared to Estée Lauder, in the debt, revenue, EBITDA and net income departments:
Estée Lauder is able to keep debt low and remain profitable. Avon's debt is going up and the company is struggling to be profitable. Since Neiman Marcus Group is not publicly traded we have to look to the company's investor relations. Neiman Marcus has $2.68B in long-term debt and just $56.9M in cash; the quarter ending in January 13 shows $67M EBITDA.
Avon faces fierce competition from Procter & Gamble (PG), Estée Lauder and L'Oreal (LRLCY.PK). Still the old-fashioned concept of direct selling and independent representatives reaches a certain base of consumers via social networks. Avon's Silpada Jewlery website entices would-be representatives with free jewelry:
By simply partying with your friends for a couple of hours, socializing, having fun, and trying on jewelry, you'll earn free jewelry!
While the overall business may be stronger in Latin America, the United States has many alternatives to this sort of social marketing.
Revenue for both Avon and Estée Lauder has trended upward, however Avon's earnings fell hard last year.
Avon has gone into the red in terms of net income. This may be one of the reasons the company is issuing higher yield bonds, to try to attract investors. Given their credit rating, and outlook this move succeeds in attracting attention, though risk factors are numerous.
Though the new Avon bonds should yield more if the company is downgraded, the current financial picture is reason to be speculative.
Avon, Estée Lauder & Neiman Marcus In Moderation
Those willing to take the risk with Avon might consider a diversified approach. The 2043 Avon and 2028 Neiman Marcus Group bonds both yield 6.7%, the long-term 2042 Estée Lauder bonds yield 4.1% and are trading around $92. Here is an example, the two larger portfolios allocate evenly, the smaller portfolio excludes Estée Lauder, because the Avon and Estée Lauder bonds require $2,000 minimum denomination.
|portfolio size||2043 Avon 6.95%||2042 Estée Lauder 3.7%||2028 Neiman Marcus 7.12%||total / %|
|$50,000||$2,060||-||$1,050||$3,110 / 6.2%|
|$150,000||$2,060||$1,900||$2,100||$6,060 / 4%|
|$250,000||$3,090||$2,850||$3,150||$9,090 / 3.6%|
The Estée Lauder bonds are trading under par, with a low 3.7% coupon; their A2 rating could help balance Avon and Neiman's lower ratings. When interest rates go up bond prices will go down; while 6.7% yields are attractive there is good reason to keep everything in moderation. Investors not ready to go into individual bonds can always look for lower prices in the future.
Continued underperformance by Avon, including dwindling earnings and quarterly losses could strain the company further down the road. Moody's downgraded Avon from Baa1 in February 2013, so the current Baa2 rating and stable outlook have only been in place a short time. Right now investors who generally would not consider Avon, may be attracted by the yield; though it is very important to keep an eye on the direction of the company's earnings and income.
If you have any thoughts on Avon Product's new bonds, or this diversified example please leave a comment below.
Additional disclosure: I am considering the Avon 2023 and 2043 bonds. This article is not a recommendation to buy, please consult a financial adviser to determine proper allocations (if any) to meet your objectives.