Can POTNETWORK HLDGS I (OTCMKTS:POTN) Answer the Big Question
POTNETWORK HLDGS I (OTCMKTS:POTN) has the worst toxic debt dilemma seen on a company since regulators began to crackdown on dodgy debt deals.
Here is the big question, how much dilution will there be this quarter, last quarter it was 42m shares.
Another question is who is Sign, who are the shareholders, and how stupid can the Board be to approve a fixed .003 conversion price. That certainly looks like a suspect deal. A deal that absolutly wipes out shareholders. Sign would be paid $36m in stock on a $2m debt, doesn’t that seem wrong, possibly illegal?
And who exactly are the other debt holders, why not just pay them out?
Is Sign shorting against their huge position?
This convertible debt, often convertible preferred stock or convertible debentures, can be converted to the common stock of the issuing company often at steep discounts to the market value of the common stock. Under the typical “death spiral” scenario, the holder of the convertible debt initially shorts the issuer’s common stock, which often causes the stock price to decline, at which time the debt holder converts some of the convertible debt to common shares with which he then covers the debt holder’s short position.
The debt holder continues to sell short and cover with converted stock, which, along with selling by other shareholders alarmed by the falling price, continually weakens the share price, making the shares unattractive to new investors and possibly severely limiting the company’s ability to obtain new financing if necessary.
An important characteristic of this kind of convertible debt is that it often carries conditions like a quarterly or semiannual reset of the conversion price to keep the conversion price more or less close to the actual stock price.
However, a lower conversion price also increases the number of shares that a bond holder gets in exchange for one bond, which increases the dilution of existing shareholders.
A lower price reset can also force investors that have set up a long CB/short stock position to sell more stock (“adjust the delta”), creating a vicious circle, hence the nickname death spiral.
Companies willing to agree to financing on these terms are often desperate and could not obtain funding through any other means.
The terms, though viewed by some as onerous, give the lender a potential way to recover their debt regardless of what happens to the shares of the company.
The lender would have a potentially greater gain if the shares were to increase in value, but if they decrease in value, there is some protection.
Otherwise, they would probably not be willing to lend the money because of the poor risk profiles of the companies interested in this type of financing.