Taking Stock / El Al, the New Solid Rock

Say a year ago you were offered the following deal. You lend us NIS 150 million for four years. We pay you about the same interest the government has to pay when raising money, plus a small 1 percent spread.

The only security you get is 30 percent of the shares in a company that has lost money in eight of the last 10 years. Its shareholder equity is practically zero, and it owes the banks about a billion dollars.

The deal is dead simple. If its stock collapses, the collateral becomes worthless. And if the shares take off, you don't benefit at all, because all you're getting is repayment of your principal and interest.

Hmm. Doesn't sound that great, does it. Let's try again.

A year has passed, and the company really did clean up its act. Its stock rose 200 percent.

Now the share price is rather more satisfying, and we offer you the deal again. You lend us NIS 150,000 and get the shares as security. This time, though, you get a lot fewer shares, because their value has risen amazingly. This time you have to settle for 10 percent of its stock.

What do you say?

Well, luckily, you don't manage other people's money (do you?), because the institutional investors on the Tel Aviv Stock Exchange who scorned that first deal, stampeded to the second.

The Boroviches bit

There is any number of anecdotes about the revolution in the capital market over the last year. One is how people who manage other people's money lost their aversion to risk and developed a ravenous appetite for it instead.

But we think the astonishing offering that the Borovich brothers, Dedi and Izzy, carried out Tuesday without attracting any media attention was the hands-down winner of the lot.

To recap, a year ago, institutional investors wouldn't touch El Al with a barge pole. The company's record and its sky-high debt scared them off, and the airline went public at a pitiful company value of $100 million.

It almost didn't make it onto the market, too. Knafaim-Arkia Holdings, under the Boroviches' hands, scooped up most of the securities at a rock-bottom price. Then El Al's stock started to take off. This month, the company's market value reached almost $400 million. In less than a year, anybody buying at its IPO made a 1,000 percent return.

The Boroviches moved fast, and a month ago they announced they'd be raising NIS 150 million through a bond offering.

Second time around

Bond offerings have become very popular lately among people who manage other people's money. But the Knafaim offering was different.

Most companies offering securities have to undergo the gauntlet of a Ma'alot rating. But Knafaim managed to tap the institutionals without any rating at all, just two weeks after announcing its intentions.

How did it do it? Institutional investors prefer rated securities, as coverage for a rainy day.

Simple: Knafaim offered the bond buyers bundles of 20 percent of El Al's shares and warrants, worth NIS 225 million, as security. The underwriters said the security was solid, comprising 150 percent of the debt the company raised.

Unarguably, mathematically speaking, NIS 225 million is 150 percent of the NIS 150 million amount that Knafaim raised. But one cannot help recall that just a few months ago, that same amount of stock was trading at a market value of NIS 80 million, meaning half the value of the bonds issued now.

The Boroviches are wily businessmen who have done well with most of the businesses they've taken over. The capital market pins high hopes on their ability to cultivate El Al.

The list of institutionals who bought their bonds include some pretty wily characters too, and they evidently believe that under current market conditions, based on the bundled bonds and options, they stand to turn a quick profit.

Like in the boom days, sewing a hefty chunk of warrants into the bundle did the trick, even though their exercise price reflects a NIS 1.2 billion value for Knafaim, which is very close to its all-time high.

It is amazing how fast sentiment can change; how fast companies change their positioning; how fast people who manage other people's money change their minds. A year ago, El Al at $100 million was considered junk stock. Today, with the stock inflated several times that amount, they're considered rock-solid security.

The managers of Israel's institutional investors love to slam the bankers who lavished non-recourse loans on businessmen, with no collateral worth its name, at vanishingly small interest spreads.

Yet it seems that Israel's capital market grants even sweeter loans. Knafaim has raised NIS 150 million, and the only security it's providing is El Al shares. Unlike the bankers who sign lenders onto a long list of covenants, the institutional investors demanded nothing in return. The market is boiling, stocks are racing along, the Boroviches threw some options into the stew and it flew off the shelves like candy.