Diana Containerships Inc. (DCIX) previously disclosed the sale of seven containerships as discussed in an article titled "Huge Disconnect Between NAV and Stock Price Post Vessel Sale." The announced sale of seven vessels ("Sale Agreements") was the first shareholder friendly act by management after a series of misbegotten reverse stock splits and transactions with Kalani Investments.
As discussed in the referenced article, it would result in an almost debt free balance sheet and a NAV post close of the sale agreements equal to a fraction of the current EMV of DCIX. My second article on DCIX was going to address the overhang of the Kalani warrants on the stock price and how it could be eliminated to the benefit of both Kalani and DCIX. Other events intervened.
Any goodwill towards management engendered by the sale agreements announcement was unfortunately quickly squandered by management's subsequent October 6th 6-K filing disclosing a special shareholders meeting to authorize additional reverse stock splits. Diana Shipping Inc. (DSX) controls DCIX through the Series C Preferred.
The Series C Preferred Stock votes with the common shares of the Company, and each share of the Series C Preferred Stock entitles the holder thereof to up to 250,000 votes, subject to a cap such that the aggregate voting power of any holder of Series C Preferred Stock together with its affiliates does not exceed 49.0%, on all matters submitted to a vote of the stockholders of the Company.
The proposed amendment to the amended and restated articles of incorporation, to authorize additional reverse stock splits, only requires the approval of a majority of the common shares entitled to attend and vote at the meeting.
Adoption of the Proposal requires the affirmative vote of a majority of all votes eligible to be cast by holders of Shares entitled to attend and vote at the Meeting.
Since 100% of the shares are unlikely to vote, the 49% voting rights conferred to DSX by the Series C Preferred will carry the day and the amendment to authorize additional reverse stock splits will be approved. The reverse stock splits have been a negative for shareholders in the past and the proposal suggests DCIX expects Kalani will continue to exercise warrants to purchase the Series B-2 Preferred and convert such preferred into common stock and sell it into the market.
A Better Course Of Action: Repurchase The Warrants
A better course of action and one that would benefit DCIX, Kalani and current shareholders would be to repurchase the Kalani warrants. As discussed in the prior article, most of DCIX's debt was funded by DSX. Since DCIX would be essentially debt free at the close of the sale agreements, DCIX would have the borrowing capacity necessary to fund a buyout of the warrants and DSX should be willing to provide a modest debt facility.
The value of the warrants to Kalani is not the face value of the Series B-2 Preferred that it can purchase through the warrants but the difference in the common stock conversion price (92.25% of the lowest daily VWAP during the trailing 5 day period) of the B-2 Preferred and the price that it can sell the common stock in the market. For purposes of simplicity, we will assume that Kalani would net 10% of the face value of each Series B-2 Preferred it converts and sells.
The warrants issued to Kalani expire on March 24th, 2019, leaving fewer than 400 trading days for Kalani to exercise, convert the preferred, and sell the underlying stock. To avoid having to file a disclosure statement with the SEC, Kalani must keep its ownership of the stock below 4.99%, so this places a certain amount of administrative friction on the number of warrants Kalani may exercise on a daily basis.
A bigger constraint on the number of warrants Kalani may exercise is the impending delisting of DCIX from Nasdaq. DCIX received a notice from Nasdaq on July 31st indicating
that the Company is no longer in compliance with the continued listing requirement under Nasdaq Listing Rule 5450 (B)(1)(C) because the market value of publicly held shares (“MVPHS”) was below $5,000,000 for 30 consecutive business days.
DCIX has 180 days to cure this issue.
Pursuant to Nasdaq Listing Rule 5810(C)(3)(D), the applicable grace period to regain compliance is 180 calendar days, or until January 29, 2018. The Company can cure this deficiency if the Company’s MVPHS closes at $5,000,000 or more for at least ten consecutive business days during the grace period.
The impending delisting provides DCIX with significant leverage to negotiate a repurchase of the warrants from Kalani, since delisting would likely result in an evaporation of daily trading volume and limit its ability to sell common stock obtained through the purchase and conversion of the Series B-2 Preferred. The value of the warrants to Kalani would be impaired.
The DCIX's trading volume has been inflated during the period subsequent to the 1 for 3 reverse stock split announced on September 22nd.
The 20 days of volume prior to the September 22nd announcement are likely more indicative of a normalized trading volume level once the heavier volume induced by the recent announcements fade.
Let's give Kalani the benefit of the doubt and assume that 4 million shares (far in excess of the recent volume levels) trade per day at $.50 per share, or $2 million per day. The table below calculates the face value of the Series B-2 Preferred that could reasonably be purchased, converted, and sold by Kalani during the 77 trading days that remained between October 6th and January 29th.
|Kalani Warrant Exercise|
|Estimated Average Volume||4,000,000||2,000,000|
|Average Stock Price||$0.50||$0.50|
|Value of Stock Traded During Period (millions)||$154.00||$77.00|
|% Kalani Sales||15%||15%|
|Value of Kalani Sales (millions)||$23.10||$11.55|
|Kalani Arbitrage on Sales||10%||10%|
|Kalani Net Earnings (millions)||$2.31||$1.16|
The maximum ownership limitation of 4.99% of the shares of common stock outstanding immediately after giving effect to such conversion of the Series B-2 Preferred detailed in the Statement of Designations and Preferences for the Series B-2 Preferred likely adds some administrative friction to the exercise, purchase, sell cycle for Kalani.
Let's assume by some miracle that despite the daily onslaught of Kalani shares into the market, DCIX is able to increase its EMV to $2 million (well above current estimated EMV of between $600k and $1 million); but, due to the administrative constraints imposed by the ownership limitation of 4.99%, Kalani is only able to exercise, convert and sell the equivalent of 5% of DCIX's common stock per day.
5% of a $2 million EMV is $100k. Let's assume this would be a reasonable definition of the lower bound of what Kalani could sell on a daily basis. At this lower bound of issuance, Kalani would only be able to sell approximately $7.7 million of common stock during the next 77 days. A 10% arbitrage profit means it would earn about $770k.
Kalani likely has about 130,000 warrants remaining. It has no economic incentive to exercise the warrants other than netting the arbitrage, the lower and upper bounds of its net arbitrage were estimated between $770k and $2.3 million in the paragraph above based on a range of what are likely to be generous assumptions.
Its ability to sell common stock at a reasonable volume if DCIX is delisted would certainly be impaired; therefore, the value of its warrants would be impaired after the delisting. At January 29th, 2018, the warrants would only have 14 months remaining. DCIX, therefore, does have a certain amount of leverage in any warrants repurchase negotiation with Kalani.
DCIX management should offer Kalani $1.5 million in cash in return for the cancellation of all but 100 of the warrants, roughly midpoint of the estimated net arbitrage range of $770k to $2.3 million. The conversion price for the underlying Series B-2 Preferred for these 100 warrants should be fixed at $.50. This would translate into 200,000 shares of DCIX to be owned by Kalani.
Assuming that there are currently 1.7 million shares outstanding at October 6th (DCIX disclosed 1.1 million shares on September 22nd and there have only be 10 trading days since September 22nd), this would result in 1.9 million shares outstanding. Assuming the $29.2 million NAV calculated in the prior article, this would result in a per share NAV of $15.36. Let's assume that with the elimination of the Kalani warrant overhang the stock trades at a 30% discount to the NAV. This would equal $10.75. Kalani would earn $10.25 per share or an additional $2.15 million.
The $3.65 million payday for Kalani may seem excessive but it likely approaches what Kalani would reasonably expect to net over the remaining life of the warrants if DCIX is not delisted (a huge IF). Both management and current shareholders would benefit greatly from the warrant repurchase. For DSX, it would limit further damage to its reputation from its subsidiary continuing to deal with Kalani Investments.
After starting down the proper path by entering Sale Agreements for seven of its vessels, DCIX management seems to have lost its way with the announcement of a special shareholders meeting to authorize additional reverse stock splits. The proper course of action is to repurchase the Kalani warrants as soon as possible.
Never own DCIX and TOP Ships (TOPS) going into the close on a Friday! I traded around my position on Friday (selling, buying, and selling) and had sold 82% of the shares I held by 3:55 pm. I had a sell order for the final shares but played it too cute with the limit price. Always better to blow it out and return on Monday to fight again!
Disclosure: I am/we are long DCIX.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
Additional disclosure: My remaining position in DCIX is very small.
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