I’ve no doubt that SEEK’s lawyers and underwriters know this subject matter much better than I do. They’re unlikely to have made any mistakes. But for the life of me, I can’t see how SEEK is allowed to call its current hybrid offer a ‘subordinated note’ and to refer to the instrument as ‘subordinated, unsecured debt’, as is so clearly spelled out in a graphic on page 28 of the prospectus (and elsewhere).
It has all the hallmarks of a preference share, and on the continuum of risk I think of it as being equity-like rather than debt-like. A comparison with other subordinated notes might be useful.
Take the recently offered NAB Subordinated Notes (NABHB). It offers compulsory distributions (although subject to a solvency test) and missed payments are cumulative. It has a clear end date, in 2022 if not repaid sooner, and must be repaid with cash.
It’s a similar deal for the ANZ Subordinated Notes (ANZHA) which has compulsory but non-cumulative distributions. The AGL Notes, Origin Notes and Tabcorp Notes all have deferrable distributions, but they’re cumulative and accrue interest in the meantime. They also have end dates, although some not for a long time, and must be repaid with cash. Importantly, all of these securities pay unfranked distributions. Genuine debt doesn’t pay franking credits.
In contrast, the SEEK Notes are potentially perpetual in nature. They offer distributions that are completely discretionary and non-cumulative if missed. While the SEEK Notes will, at directors’ discretion, pay a high rate, the proceeds will be a combination of cash dividend and franking credits generated by SEEK’s tax payments.
While the prospectus carefully refers to each payment as a ‘distribution’, it looks more like a preference share dividend, especially considering the franking credits and 'at risk' nature of the payment. And if directors ever do decide to unwind the security, they can be converted into SEEK ordinary equity at the company’s election, rather than only being repayable with cash.
The confusion isn’t lost in the fine print. While the notes are regularly referred to as debt in the glossy section, there are also clues it might be otherwise:
Section 2.1.7 states ‘SEEK anticipates the Notes will be classified as equity in SEEK’s financial statements…’
Section 4.2: ‘as the Notes will be classified as equity for accounting purposes any distribution paid on Notes will be treated as a dividend rather than interest expense.’
Section 4.4 ‘For accounting purposes, Notes meet the criteria contained in Australian accounting standards to be classified as an equity instrument rather than as a liability.’
When the group calculates its interest cover ratio to show its impressive debt servicing ability, towards the bottom of page 47, it doesn’t deduct anything for distribution payments to noteholders. In its words, ‘This interest ratio does not, and will not, include Distribution payments on Notes as they are classified as equity and any Distributions paid will go directly to equity rather than profit or loss.’
Lastly, the Australian Taxation summary section written by PWC clearly states that ‘The Notes should be characterised as “equity interests” under the debt and equity rules for income tax purposes.’
I’ve been reading complex prospectuses for a few decades now, and while it gets easier, it never gets easy. I genuinely feel for the amateur investor trying to work their way through all this fine print over their weekend when deciding whether to subscribe. Most won't bother.
While I don’t question the legality of referring to this offering as ‘subordinated notes’, it does make me wonder what lessons have been learned from the last hybrid security boom and bust (2004-08). Since then, regulators and industry insiders have made many noises about plain-language prospectuses and clear and simple guidelines.
But if SEEK is able to sell these securities as debt, while in the fine print revealing that it’s really equity, then something is still wrong. I’m disappointed ASIC hasn’t taken a harder stance here. There is a very good argument that the SEEK Notes should be called SEEK Preference Shares, and be sold as such.