RAVE Update – Buy the Notes Buy The Stock
A quick update for Groove community members on Rave Restaurant Group. We are very bullish on recent developments with Rave, including the company’s recently announced convertible note offering and the hiring of former Smashburger CEO Scott Crane.
We believe that the note offering is ingenious in that Rave’s largest shareholder Newcastle has found a way to acquire a larger percentage of the company using an approach that allows them to acquire a larger stake in Rave at a very low price, but unassailable because on its face it allows existing shareholders to participate ratably in the offering to maintain their ownership percentage stake in the company. There are two key aspects of this offering that shareholders should understand:
1) We see this as a “Land Grab” by Rave’s largest shareholder, Newcastle. While the terms of the offering make it legally unassailable because it allows all existing shareholders to participate and maintain their existing percentage stake, we note that the reality of the situation is that many likely will not and this will allow Newcastle to buy additional shares (see #2 below). With RAVE trading at a price that appears to be very low vs. comparables and very low vs. the value of its assets in any kind of acquisition scenario, an open market purchase of any significant number of shares by the company’s largest shareholder would drive RAVE’s stock price substantially higher. With the offering, Newcastle is able to take down a very large number of Rave shares at a much, much lower price than they would have in any other scenario. Shareholders should see this for what it is – a very clever way for the biggest Rave insiders to buy more stock without causing the stock price to rocket higher.
Many short sellers had seized on the theme that RAVE stock was not cheap because if it was, then insiders would be buying the stock. In fact, the biggest insiders were working on a plan that would allow them to buy many more shares at the lowest price possible. Using the convertible note approach, they will be able to buy those shares (along side existing shareholders who are wise to what is happening here) at $2 per share, a price that will likely look astonishly cheap 6-12 months from now.
2) “Oversubscription Privilege” The terms of the deal include an Oversubscription Privilege that reads as follows: “If less than all of the subscription rights are exercised, then those shareholders who have fully exercised their basic subscription right will be entitled to purchase an allocable portion of the convertible notes unpurchased by other rights holders at the same purchase price of $100 per convertible note.”
So for every 355 shares where the owner does not choose to invest more money into these (as described) highly illiquid debt securities with a laundry list of “risk factors”, those shares will go into a pool available to be purchased by other shareholders who exercise their rights to participate in full. This means that all who have accounts that own 354 shares or less do not get to participate. And the economic reality is that even accounts holding up to 1000 shares will be unlikely to participate given the fees that accompany such corporate actions at most brokerage firms. When investors must pay between $39 – $100 in fees/costs to exercise these rights, they are unlikely to exercise their right to invest $200. While we do not know how many RAVE holders there are with 1000 shares or fewer, we are confident that Newcastle knows exactly how many accounts have share amounts that will render those holders unable or unwilling (due to the cost economics) to exercise those rights. We wonder if this offering’s terms were not designed in the way that would result in the largest number of accounts choosing not to exercise, thus allowing those rights to go into the pool that will be available to be purchased under the oversubscription privilege.
We find it interesting that the company planned for the original offering deadline date to be right after the release of the most recent quarterly earnings. We believe this quarterly report (which was very poor by any measure) will mark a low in every key metric – average unit volumes (AUVs), same store sales, earnings, cash flow etc. and investors will be able to look back and very clearly see an inflection point for Rave’s operational performance. And while we are very confident that will prove to be the case, there is nothing today that Rave holders can point to that would allow them to be certain that the sub-par performance will not continue. And it would be an understatement to say that we do not expect that there will be announcements of improving operational metrics prior to the deadline for shareholders to commit additional capital to participate in this offering. There is nothing quite like news of a 17% same store sales decline to make shareholders want to tie up additional investment capital in a longer term commitment, right?
If this offering is all that it appears to be, we think last week’s extension of the deadline was a wise move by Newcastle for two reasons – 1) it allows for an even stronger argument that they gave shareholders every opportunity to participate in the deal and 2) it gives the impression that there have not been enough shareholders choosing to participate, which may cause even more to be skittish and choose not to exercise their rights, which allows those to go into the Oversubscription Privilege pool so that Newcastle can buy a greater number of notes/shares.
The bottom line here is we believe that the opportunity to exercise rights to buy RAVE notes convertible into stock at $2/share represents a tremendous opportunity for shareholders to add to their position at a price they may never see again. Groove community participants and all Rave shareholders should recognize that the people who know this company better than anyone (insiders at Newcastle) are pulling out all the stops to buy as much RAVE stock as they can right now, as we believe that Newcastle will attempt to use the oversubscription privilege to buy as many notes as the offering terms and demand from shareholders will allow. The author of this piece (along with several who contributed their thoughts on the offering) have exercised for the full allocation of convertible notes in all of our accounts and in several we have submitted a request to participate in the oversubscription privilege to the tune of an extra $25k. We think all shareholders would be wise to recognize that the quarter just reported likely will prove to be a trough in RAVE’s operational performance. We also believe that new RAVE CEO Scott Crane is going to be a major game-changer here – if he is able to help Pie Five restaurants achieve the store level operational excellence exhibited during his reign at Smashburger, Pie Five is going to be reporting improvements in every key measurable (sales, AUVs, same store sales, etc.) in the near future. We believe that investor recognition of this and what will soon be a clearer picture of significant improvements in operational and financial results should drive RAVE’s stock price significantly higher over the next 6-12 months and the opportunity to buy RAVE shares in the current trading range will be very short lived.