Softbank Wrapping up Arm Sale While Wrestling With Alarmed Investors
We may learn Monday about Softbank’s pending sale of Arm Holdings to NVidia, but the bigger story is the showdown brewing between CEO Masayoshi Son and Softbank’s worried investors.
Sold! Softbank Group (9984 JP) is said to be closing in on a deal to sell Arm Holdings (ARM LN) to NVIDIA Corp (NVDA US) for more than $40 billion in cash and stock in a deal that could be announced as soon as Monday, according to reports out today by The Wall Street Journal and Financial Times.
This finally may be some good news for Softbank's investors, shaken by news last week that it had launched a massive options program so large it helped move markets on stocks it just bought.
This was funded with cash Softbank had said it must protect against conditions too risky to allow it to execute promised stock buybacks and debt repayment to repair its damaged balance sheet (read more in Softbank's Son "Feeling The Force" With Options Funded With Cash It Had Pledged To Protect on 9/8/20).
I warned last week Softbank had deliberately withheld and misrepresented material information about such a dramatic change in strategy direction and risk in its earnings presentation to investors just weeks ago.
On Saturday, Softbank's top investors went straight to the top to find out why—the answer is troubling, but not surprising.
Looks Like Arm Holdings Deal Coming
After months of speculation, Softbank reportedly is near to closing a deal to sell Arm Holdings to NVIDIA Corp for more than $40 billion in cash and stock, according to sources talking to The Wall Street Journal and confirmed by Financial Times.
If so, those same sources say, the deal could be announced as soon as Monday. Financial Times further reports that the "announcement of the deal hinged on SoftBank ending a messy dispute between Arm and the head of its China joint venture, Allen Wu, who earlier rebuffed an attempt to remove him and claimed legal control of the unit." Apparently, this has been “resolved."
SoftBank recently demonstrated how keen it was to close the deal soon by reversing an earlier decision to extract the "internet-of-things business from Arm and transfer it to a new company under its control." This would have "stripped Arm of what was meant to be the high-growth engine that would power it into a 5G-connected future."
Some speculated Softbank backed down because its decision "put it in conflict with commitments made to the U.K. over Arm, as part of a 2016 deal to "appease the government."
In any case, this sale would close the book on yet another of Softbank's many expensive and disappointing investments—albeit not a multi-billion-dollar loser like The We Company (WeWork) (WE US) which had triggered Softbank's own unraveling via WeWork's spectacular implosion last year.
(See my comprehensive reports in which I projected this sad outcome starting with Gravity Works As WeWork Doesn't; Now Plan B, 9/17/19.)
Now About Last Week's Crisis
Assuming the Arm sale moves forward and is approved by regulators, it still will take several more months before Softbank can collect whatever cash it nets in the deal.
And it really needs the cash. Softbank warned investors just weeks ago with its mid-August release of first quarter earnings as of June 30th that it must preserve the $40 billion recently netted from stock and asset sales by tucking it away in "high-quality, highly liquid marketable securities and other instruments, in addition to holding the funds in cash and deposits."
This was, Softbank told investors, because of increased risks for the foreseeable future it deemed so troublesome it decided to table until after March 2021, or longer, its pledge to buy back stock and, more importantly, to reduce debt as promised to refurbish its balance sheet bloodied by stunning losses and enormous asset value write-downs so disastrous over the last year that its bankers cut off its access to credit and credit-rating agencies cut its debt to junk quality (see Softbank's Son "Feeling The Force" With Options Funded With Cash It Had Pledged To Protect on 9/8/20).
At the same time, Softbank also substantially understated its severely worsened credit and financial risk by featuring its dubiously calculated LTV ratio at 10% versus core leverage near 10x at the end of June compared with 7x at the end of March, assuming the more credibly revealing metric total debt/EBITDA (read more in Softbank's Son "Feeling The Force" With Options Funded With Cash It Had Pledged To Protect on 9/8/20).
Of course, the world also learned last week that Softbank actually had spent $4 billion of that reportedly at-risk cash on an undisclosed options scheme so large it helped move market prices on stock it just bought.
The revelation sent Softbank stock into a tailspin which cost its investors as much as $17 billion in lost market cap.
So, as it turns out, we really don't know what Softbank plans to do with whatever cash it actually has on hand, just that it deliberately did not tell investors weeks ago that it already was underway with its dramatic change in strategy and risk.
This even as Softbank has started looking elsewhere for funding versus legacy bankers and mega-investors it has scared away after years of recklessness by CEO Masayoshi Son finally netted Softbank and Vision Fund tens of billions of dollars in record losses from which it may not recover for years from operations (versus forced fire-sales of its anchor holding Alibaba Group (9988 HK) to raise cash).
And that's a big problem, as I further observed in discussions last Thursday:
I maintain Softbank's options strategy is a material change in direction and risk. I consider the company's rhetoric about its commitment to conservative asset management and preservation of cash now is laughable in light of the revelations about such expensive, high risk strategies it actually is pursuing. The company's typically oblique disclosure and poor/deficient/missing shareholder communications have never been sufficient, as I have called out, and it's particularly troublesome now. So I maintain the company should answer to these concerns with a press release, and the longer it doesn't the more we who are concerned will assume more dire reasons for not doing so.
I was not alone with my concern that Softbank withheld such material information from investors. Indeed, reports surfaced almost immediately that Softbank's largest investors were getting stonewalled as they tried to get explanations about Son's massive options scheme; e.g. what was the nature of the trades, how and when were they were executed and then closed out—if they are closed out, etc.
But as of Friday Softbank's top investors couldn't even get it to clarify who was running the new operation, which sources have told Bloomberg was Son himself along with a small staff.
Given the alarming plunge in market cap, however, Softbank executives reportedly relented on Saturday and met with investors, according to insiders talking to Bloomberg. It turns out, not surprisingly, that it was Son who decided to keep the derivatives scheme secret from investors and who remains "reluctant to provide information," according to insiders.
Now that Son has cost Softbank another $10-15 billion or so in lost market cap, Softbank reportedly is "considering revamping" the new derivatives strategy—who knows what that means—while also trying to "assure [investors] that the bets are relatively conservative."
Relatively conservative, sure. By spending billions in cash Softbank told investors just last month was being squirreled away in "high-quality, highly liquid marketable securities and other instruments, in addition to holding the funds in cash and deposits."
In other words, not spent on derivatives in volatile tech companies.
Now we know Son and Softbank deliberately withheld accurate and timely disclosure of a $4 billion change in strategy direction and risk. We know that Softbank actually is not preserving cash as reported, which had been its excuse to table promised balance sheet repair which is badly needed given its much worse than advertised financial condition.
And, as I also warned last week and Bloomberg reports today, "The scrutiny from investors follows another controversial trade by SoftBank, which used complex securities to offload exposure to the now-collapsed German payments company Wirecard AG."
What other trouble is Softbank deliberately withholding from investors?
Softbank's 6% notes were down further on Friday to 96.8; 7.3% ytw, 580 bps. This still indicates an appallingly meager 58 bps per turn of core leverage on a 29-year bond with weak "B2/B+" credit quality ratings. This is severely insufficient compensation given Softbank's excessively poor credit quality, it's increasingly volatile and dubiously aggressive financial strategies, and its notoriously deficient and misleading reporting. Now we can add increased risk of investigations by regulators and lawsuits from investors because of Son's massively expensive and risky options scheme and other legal pressures possibly related to Softbank's strange connection to investments in Wirecard AG (WDI GR)now that its years of fraud have been revealed. Maintain “Underperform.”
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