Business papers reported on 27 April 2011 that Metro Pacific Holdings (MPHI) opted to convert its Metro Pacific Investment Corp. (MPI) Bonds to MPI Common Shares.

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It means MPHI wants to increase its ownership share in MPI beyond its current 55.6% stake.

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The transaction involves MPHI giving up Php6.6 billion worth of MPI Convertible Bonds (that MPHI currently holds) in exchange for 2,030,769,230 MPI common stocks — roughly Php3.25 per share (remember this price — at this price, Php6.6 billion worth of MPI shares were bought).

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According to the amended disclosure by MPI dated 26 April 2011, the common stocks to be issued to MPHI will come from the increase in authorized capital which MPI is currently applying for approval.

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However, if within 30 days the application for the increase in authorized capital is not approved, MPI will get the 2million+ common stocks from its unissued authorized capital.

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As of end-2010, MPI has 20,155,464,522 shares outstanding or in the hands of its owners/investors.  Out of that total, MPHI owns approximately 55.57% of MPI through its holdings of  11.201 million shares (20,155,464,522 x 55.6%).

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After conversion, the total outstanding common stock will be = 20,155,464,522 + 2,030,769,230 = 22,186,233,752

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If currently MPHI holds 11.201 million MPI common stocks,  the additional MPI common stock resulting from the conversion (approx. 2.03 million shares) will result to MPHI owning 13.231 million shares of MPI common stocks.

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Thus, after conversion, MPHI will own approx. 59.64% of MPI (13.231/22.186).

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Is this the reason why the share price of MPI plunged -4.11% on Apr. 26 (announcement date) and -3.48% today (Apr. 27)?  Is now the time to sell MPI stocks?

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Could it be that a majority owner wanting to own more of the company a bad thing?

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Apparently, the worry of investors can be traced to the “dilution” of earnings per share.

Simply put, it means the share of current stockholders in the company’s net profit will be less after additional stocks are issued.

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What is earnings per share? Think of it this way, assume a company’s net profit is Php100 and 10 people have one (1) common stock each.

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With this example, each person owns 10% of the company. How much is each person’s share in that Php100 net profit?  This is what we call earnings per share (or EPS) = Php100 / 10 common stocks = Php10/common stock.

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Since each stockholder owns 1 common stock, then each of them is “entitled” to the Php10 EPS.

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If there were 9 stockholders (one owning 2 common stocks; the other 8 owning 1 common stock each), the stockholder who owns 2 common stocks will be entitled to the Php20 out of Php100 net profit. (EPS of Php10 x 2 common stocks = Php20)

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Now, imagine if the company issues additional 1 common stock. If before we divide the profits into 10, we will now divide into 11.

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If before EPS is Php10 (Php100/10 shares), EPS will now be Php9.09 (Php100/11 shares). That is why it is said to be “diluted”.

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In our example, the outstanding shares increased by +10% (from 10 to 11). EPS was diluted by -9.1% (from Php10 to Php9.09).

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As a shortcut, we can calculate EPS dilution as:

[1 / (1+%increase in outstanding shares) ] – 1

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In the transaction between MPHI and MPI, additional shares will be issued by MPI in exchange for (or effectively paying) the Php6.6 billion worth of Convertible Bonds.

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MPI will increase its outstanding shares by, incidentally, +10% (from 20.155 million shares to 22.186 million shares).

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How much will be the EPS dilution? Again, incidentally, approximately -9.1%.         [1 / (1 + 10%) ] – 1 = -9.1%

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So, is it time to sell MPI shares because of concerns on EPS dilution?

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Maybe not.

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For one, the stock has so far lost -7.45% two days after the announcement of the conversion.

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Also, again, could it be that a majority owner wanting to increase its ownership stake in the company a bad thing? I don’t think so.

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And how about the savings from not paying interest on the Php6.6 billion bonds anymore? Although I am not sure if the bonds to be converted bear a stated interest rate.

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Are people reducing their use of electricity distributed by Meralco? I doubt it, and MPI owns 17% of Meralco.

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Would people from the west concession cut their use of water supplied by Maynilad? Again, not a chance, maybe the other way around. MPI owns more than 50% of Maynilad.

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Is it possible for those going to North Luzon to just use alternate routes and opt not to use the North Luzon Expressway (NLEX) because of higher fees? It can happen. But how probable would that be? MPI owns 99.85% of Metro Pacific Tollways Corp (which owns 67.1% of Manila North Tollways Corp. and 46% of Tollways Management Corp.)

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Aside from these major investments, MPI owns Makati Med, Cardinal Santos, Davao Doctors and Riverside Medical Center in Bacolod.

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With that, is it time to buy MPI stocks? As always, in a disciplined and strategic way.

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