Two Convertible Debentures to Get You Started

Two examples of the features offered by convertible debentures.

The Motley Fool

As promised in the first post, here are two ideas for you to begin chewing on these hybrid securities:

Boyd Group Income Fund (TSX:BYD.UN)

Boyd Group operates over 200 collision repair service centres in Canada’s 4 Western provinces and 13 U.S. states.  The company is Winnipeg headquartered and has been around since 1990.  Over the last five years or so it has seemingly really hit its stride as the stock has climbed more than 600%.  This is a great example of where the downside protection/open upside offered by the convertible debenture comes in to play.

Boyd Group’s convertible debenture matures in December 2017, carries a yield to maturity of 4.9% (effective yield you will receive over the life of the bond), and has a conversion price of $23.40.  The YTM compares nicely to the stock’s dividend yield of 2.5%.  The equity currently trades a bit south of $19 so would have to appreciate by about 25% before conversion becomes a realistic possibility.  If the next five years are anything like the past five years, this shouldn’t be an issue.

However, Boyd trades at a free cash multiple of 14.5 according to Capital IQ.  Its 10 year average multiple is 6.3.  This is not an overly cheap stock.  Should results stumble and this multiple revert to say 10 times free cash flow, the stock could fall from $19 to the $12-13 range.  The impact will be far less severe for debenture holders as insolvency is unlikely.  The bond characteristics will support the security.

Therefore, the Boyd Group convertible debenture (BYD.DB) offers a generous yield and the opportunity to participate in a growing business that has been a fantastic performer over the past five years.  With steady free cash being produced, as long as the company doesn’t go completely crazy with debt to fuel growth, insolvency is an unlikely outcome.  Worst case you’ll collect 4.9% per year over the next five years with this debenture.  This is better than the worst case that equity owners face.

Canam (TSX:CAM)

Aside from downside protection, convertibles can also be used to produce an income stream that otherwise doesn’t exist.  Canam is an example of a company that doesn’t pay a dividend but the convertible carries a yield to maturity of 5.3%.

The conversion spread on the Canam convertible is wider than it was with Boyd Group.  The stock currently trades at $7.60 and the conversion price is $12 (58% appreciation required), however, Canam is widely considered to be a cheap stock.  Upside beyond $12 is a distinct possibility.

The company is involved with industrial construction (buildings, structural steel, bridges) and the slowdown in the U.S. economy has impacted business.  If the U.S. economy continues to recover, Canam appears poised to benefit.

Canam’s stock currently trades below book value of $8.62.  In better economic times the company has traded as high as 2.2 times book value.  If we use 2 times book as a peak multiple we get to an upside price of $17 or so.

If you believe Canam’s stock is capable of rising to this level, the equity is the way to play the name.  However, if you are more of the belief that the U.S. economy doesn’t improve dramatically from here, yet want the chance to participate if it does, Canam’s debenture and its income producing quality might be the way to go.  Without a dividend, the stock doesn’t necessarily offer a payoff should the U.S. economy stall out.

The Foolish Bottom Line

Convertible debentures are another tool in the investor’s tool kit.  They don’t always make sense, but occasionally, their downside protection and income producing characteristics are a fit for specific situations.  If you absolutely love a company’s prospects, convertibles are not the correct route as the equity will provide you with more bang for your buck.  However, if you have doubts but don’t want to miss out should the stock run, consider these hybrids as a way to make your play.

Follow us on Twitter and Facebook for the latest in Foolish investing.

Fool contributor Iain Butler does not own shares in any of the companies mentioned in this report at this time.  The Motley Fool has no positions in the stocks mentioned above.

This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium service or advisor. We’re Motley! Questioning an investing thesis — even one of our own — helps us all think critically about investing and make decisions that help us become smarter, happier, and richer, so we sometimes publish articles that may not be in line with recommendations, rankings or other content.

More on Investing

Canadian Dollars
Stock Market

Where to Invest $5,000 in April 2024

Do you have some extra cash to spare? Here are five companies to invest $5,000 in next month.

Read more »

Plane on runway, aircraft
Stocks for Beginners

Up 53% From its 52-Week Low, Is Cargojet Stock Still a Buy?

Cargojet (TSX:CJT) stock is up a whopping 53%, nearing closer to 52-week highs from 52-week lows, so what's next for…

Read more »

Question marks in a pile
Bank Stocks

Should You Buy Canadian Western Bank for its 4.8% Dividend Yield?

Down 35% from all-time highs, Canadian Western Bank offers a tasty dividend yield of 4.8%. Is the TSX bank stock…

Read more »

Gold bars
Metals and Mining Stocks

Why Alamos Gold Jumped 7% on Wednesday

Alamos (TSX:AGI) stock and Argonaut Gold (TSX:AR) surged after the companies announced a friendly acquisition for $325 million.

Read more »

tsx today
Stock Market

TSX Today: Why Record-Breaking Rally Could Extend on Thursday, March 28

The main TSX index closed above the 22,000 level for the first time yesterday and remains on track to post…

Read more »

Nuclear power station cooling tower
Metals and Mining Stocks

If You’d Invested $1,000 in Cameco Stock 5 Years Ago, This Is How Much You’d Have Now

Cameco (TSX:CCO) stock still looks undervalued, despite a 258% rally. Can the uranium miner deliver more capital gains to shareholders?

Read more »

Businessman holding tablet and showing a growing virtual hologram of statistics, graph and chart with arrow up on dark background. Stock market. Business growth, planning and strategy concept
Dividend Stocks

TFSA Magic: Earn Enormous Passive Income That the CRA Can’t Touch

If you're seeking out passive income, with zero taxes involved, then get on board with a TFSA and this portfolio…

Read more »

potted green plant grows up in arrow shape
Stocks for Beginners

3 Growth Stocks I’m Buying in April

These three growth stocks are up in the last year, and that is likely to continue on as we keep…

Read more »