Verso Paper's Merger Proposal With NewPage Has Become Scratch Paper

| About: Verso Corporation (VRS)

Verso Paper (NYSE:VRS) produces and sells coated papers in the US. It has so much debt at such high rates, that the stock is just there to feed the bondholders for a few years before it files for a bankruptcy restructuring (for more info on its debt situation see my previous VRS article). This exact bankruptcy scenario is currently happening to another paper producer: NewPage.

In an attempt to dig itself out of its hole, Verso is trying to negotiate with NewPage's creditors and combine the two companies for synergistic advantages.

However, NewPage has no interest in making the deal happen. According to NewPage, "the proposal has serious downsides and risks to NewPage's stakeholders, employees and business. No further discussion of the proposal is anticipated by NewPage."

Standard & Poor's reported: "At this time, we believe there is substantial uncertainty that such a proposed combination could occur given that NewPage disclosed today that it has been advised that the first-lien noteholder group did not support the proposed combination and that NewPage does not anticipate further discussions regarding this proposal."

Because Verso is running out of options to climb out of its debt hole, the stock is a clear sell. As the excitement of the possible merger deal loses its luster, the stock will drift down to under $1.00 per share in the next couple weeks or months.

NewPage is getting crushed with debt, and the first lien creditors are better off going through bankruptcy than merging with Verso. This way the first lien creditors can restructure and reduce the more junior debt so the Company won't be so burdened. These creditors are just trying to to dig themselves out of an unfortunate financial hole. They don't want to dig themselves a bigger one by merging with Verso. You can read more about NewPage's restructuring plan here.

Verso stock didn't lose all its gains from the proposal announcement, and returned to $1.17 per share as it was right before the proposal on June 2nd, because shareholders are hoping NewPage and Verso will come up with another merger deal. They think that NewPage is playing hardball with their rejection of Verso's proposal and just need a better offer. I don't think VRS shareholders should hold their breath.

Part of Verso's proposal involved paying NewPage $200 million in cash. This cash supposedly would be from an outside investor. That seems like a stretch for an investor to want to invest so much into such a risky venture. I don't think Verso is able to offer NewPage's first lien creditors a much better deal than what was offered.

Both Verso and NewPage are in a declining industry. Most documents are digitized now, so coated paper is needed less. Also, NewPage had said in 2005 one of the reasons it isn't profitable is because of increased paper imports to the US from other countries. As shown here, paper imports haven't let up.

Finally, I believe Verso's executives are in general overly optimistic about cost savings and in reality the merger won't save as much as they claim. They claim the identifiable cost synergies are $125-$150 million. What isn't mentioned is all the enormous costs and inconveniences that a merger requires.

As I discussed in my last article on Verso, it's in the process of building a new "green" electricity generator. This is another one of its company-saving experiments since the business alone isn't generating enough income. Verso's executives claim that this generator will save the Company $50 million per year in electricity costs. Now I'm no expert in green energy, but I don't believe that it will save such an enormous sum. Especially after having shut down several of its mills. If a Verso investor, or even a Verso employee, wants to show me evidence that this revolutionary energy source will save that much, then I'm all ears.

All evidence points to Verso Paper following the same path as NewPage. The Company will never be profitable enough to handle so much debt and interest expenses, and needs a restructuring. There's nothing wrong with this, as the Company will survive and do well in its niche business. However, I think it's obvious the stock will reach zero in a couple years. Short term trading of the stock might work as it does have moments of bursting to the upside on restructuring possibilities. However, I believe long term investors have a better chance investing in a different kind of paper - lottery tickets.

Disclosure: I am short VRS.