NOTE–this was written over the course of the last 2 weeks and some items (prices) may have changed. Some of the below is speculation on my part–based on a lot of history of following CHS.
Starting in 2006 or 2007 (I am kind of guessing) I wrote on the 8% perpetual preferred (CHSCP) from giant ag cooperative CHS Inc. (previously Cenex Harvest States) and at the time pointed out that shares were being used to buy back patrons (members) equity. No one had paid much attention to the details of this issue until I began writing about it—now every writer anywhere points this out. It is always amazing to see a small seed grow into a tree. I believe the last time they used it to buy back patrons equity was 3/2010–here. There are over 12 million shares currently outstanding and I believe that over 75% of outstanding shares were used to buyback patron equity between 2003 and 2010.
CHSCP is now trading at $32.12–a current yield of 6.23%– yield that is below all other preferred issues from CHS which have current yields of 7.12%, 6.56%, 7.17% and 6.74%. Worse yet the CHSCP issue became redeemable on 7/18/2023–which is a date approximately 15 years after the 1st original 1st redemption date (in 2008) which was extended by the board of directors in 2013.
So why are folks willing to hold this issue (CHSCP)? Are they fools? Maybe.
Do the board of directors (all farmers and ranchers) and executives hold boatloads of this high yielding issue which could motivate them to not call the issue? NO–the board of directors and senior executives do NOT hold boatloads of this issue–in fact directors own a total of 3,120 shares and named executives own a total of 1,876 shares as of 10/18/2023. On 8/31/2010 the directors and named executives owned 32,810. Interesting. Does this imply that the general membership (we are talking member coops–not individuals) maybe have reduced their holdings over the years by 80-90%? Obviously we don’t know.
So we know that the 8% issue (CHSCP) was primarily issued to redeem patrons equity—but did you know that virtually all of the 7.875% CHSCO issue also was primarily used to redeem patrons equity? Something over 50% of this issue was issued to redeem equity. Here is a whopper of an example of this issue from 2014 being used to redeem equity where almost 7 million share were used.
Now something that hasn’t been discussed is ‘who are the patrons having their equity redeemed?’ 70% of the redemptions go to NON INDIVIDUAL members–so this means other smaller cooperatives which are members (mostly). Normally individuals can’t receive their equity redemptions until they are age 70. For detailed information here is an excerpt from the 2014 prospectus mentioned above.
The balance of the 3 preferred stock issues were issued primarily for construction of the proposed Spiritwood North Dakota nitrogen fertilizer plant and other major capital investments (refineries). The nitrogen plant never came to fruition. Also some of the cash from these transactions may have been used to redeem patrons equity—redeemed for cash instead of using preferred stock.
Do the CHSCP and CHSCO have ‘special rights’ that are lacking in the other 3 preferred issues? NO–every share of preferred outstanding is pari passu (equal in all respects). If some folks believe that the P and O issues are ‘special’ they would be wrong.
All of the preferred shares outstanding rank higher in the capital stack than everything except debt—higher than patrons equity—from a safety perspective a member of CHS is better off owning preferred shares than patrons equity.
Now we can see from a review of over 20 years worth of data that the sole reason preferred stock was used to redeem equity was that the company simply didn’t want to use ‘cash’. They were willing to commit to large future dividend payments instead of ‘paying the piper’ (the patrons) with cash. Honestly, and with the benefit of hindsight, it was a foolish road to go down–it presented substantial problems after shares were issued.
So what were those problems and why did the board of directors approve the extention to 2023 the 1st call date for the CHSCP issue in 2013 when it was originally 2008?
Likely not considered when redemption of patrons equity was made was that the equity redemption had to be made at the current market price of the preferred–NOT $25/share plus accrued. For instance when the 8% CHSCP for the last time (I believe in March, 2010) the share price was $28.30–see below for details.
The amount of patrons’ equities that will be redeemed with each share of preferred stock issued will be $28.30 which is the greater of $25.32 (equal to the $25.00 liquidation preference per share of preferred stock plus $0.32 of accumulated dividends from and including January 1, 2010 to and including February 26, 2010) or the closing price for one share of the preferred stock on February 22, 2010.
Recall that these preferred shares when issued for equity redemption ARE ALREADY REDEEMABLE. This creates a great problem for the cooperative management–how can you be issuing shares at a value of $28.30 to redeem $28.30 worth of equity and even consider calling the issue for redemption at $25? Obviously you can’t consider this and it would be a very quick way to lose your job when you screw your members out of $3/share. Of course we now know why the 1st redemption was extended into the future–why 2023 was chosen is not known–but my suspicion is that it simply was a safe date–far enough into the future so that a call made on or after this date could made without accusations that management was screwing membership.
So here is what I think will happen in the future. If we get interest rates, as represented by the 10 year treasury, down in the area of 3%, the cooperative will call the CHSCP issue. I suspect that after 13 years (since last used for equity redemption in 2010.) most of the membership shares have been sold–farmers are not stupid. Most of the shares now reside with ‘dumb money’ holders (ETFs and CEFs–for instance iShares Preferred and Income (PFF) has near a million shares). After the CHSCP issue is redeemed the 7.875% issue will be next up for redemption.
So—if you think I am wrong on this—that if fine—I may well be. My question would be WHY WOULD ANYONE accept a current yield of 6.32% and a yield to call of -28%? All 4 other preferreds outstanding are SUPERIOR to this issue–higher current yields and substantially less risk of a call.
There is no advantage to holding the CHSCP 8% issue – less yield, higher risk of a giant loss on a call. The shares are ‘pari passu’–no advantage to hold these shares. So the smart money gets out of the 8% CHSCP issue and buys any of the others–they are all better buys with MUCH less risk.