CIT Group Equity Units (CIT-PZ): Generally Undervalued Opportunity
In order to avoid a bankruptcy filing CIT Group must (1) pay the full amount of principal and interest on its floating rate notes maturing August 17 or (2) receive 90% participation in a tender offer of the notes at 82.5 cents on the dollar. The most likely outcome is either out-of-court restructuring or Chapter 11 bankruptcy (unless there is some last-minute capital raise for paying off the notes in full). My examination of the company’s capitalization has revealed a complex security that should do well under the circumstances.
CIT equity units include a “purchase contract” that obliges the owner to buy a certain number of common shares for $25 per unit—similar to assessable stock—and a 1/40th interest in a 7.50% senior note with $1,000 principal amount. At current market prices (below $1 per common share), the buyer would experience a loss of approximately $24 per unit from the purchase contract, which would fully offset his purchase price and a large portion of the principal of the note. However, there is an important stipulation in the terms regarding bankruptcy or any such reorganization:
“In addition, the purchase contract and pledge agreement that governs the Corporate Units and Treasury Units provides that your obligations under the purchase contracts will be terminated without any further action upon the termination of the purchase contracts as a result of bankruptcy, insolvency or reorganization of CIT Group Inc.”
There is also the option of converting an equity unit (a.k.a. corporate unit) to a Treasury unit, which would substitute $25 principal of the notes with $25 principal of U.S. Treasury securities. To convert corporate units to Treasury units, the owner should contact his broker or CIT’s collateral agent. The comparative payoffs of each option are presented in the following table:
| Bankruptcy | No Bankruptcy | |
| Corporate Unit | Purchase Agreement / Senior Note | Purchase Agreement / Senior Note |
| +$4 | -$8 | |
| Treasury Unit | Purchase Agreement / Treasury | Purchase Agreement / Treasury |
| +$17 | -$8 |
According to Standard & Poor’s, two-thirds of the original issue was redeemed in 2008, leaving 8 million equity units outstanding. My profit estimate of $4 per corporate unit assumes a 50% recovery for the notes in bankruptcy, which is based on CIT’s present capital structure. In any event, the best option is to convert to Treasury units if possible.
Commercial paper
Deposits
Term debt
Non-recourse, secured borrowings
7.50% senior notes due 2015
Junior subordinated notes
Preferred stock
Common stock
