Aviva's Fight to Redeem the Irredeemable

(Bloomberg Gadfly) -- No one associates insurance with fireworks. The same goes for the preference share market. Mix them together, though, and the results are combustible -- and will have far-reaching consequences.

Aviva Plc this week lobbed a rocket at its preference shareholders. The U.K. insurer will consider cancelling its "irredeemable" preference shares and paying back investors at par value -- about 450 million pounds ($622 million). The price of the securities, which had been trading well above par, collapsed.

Aviva's Fight to Redeem the Irredeemable

The average investor might have thought that this could never happen: irredeemable should mean just that.

But redemption and cancellation are technically different and Aviva may be able to get away with this.

Ordinary and preference shareholders will have to approve the proposal, as does a court. But given it would save Aviva about 40 million pounds in interest annually, expect ordinary shareholders to back the plan -- and their votes outweigh the preference holders.

No decision has been made. Aviva's options range from the hard-ball to the more generous. It could seek to cancel the whole lot, with repayment at par, but first it could make an offer to preference shareholders at a higher price, though nowhere close to where the securities once traded. The fact the prefs still trade above par suggests some investors think they can force Aviva into some form of compromise. 

Aviva may feel duty-bound to lower its cost of capital and take all available steps to get rid of expensive funding: the coupons on its preference shares range from 7.85 percent to 8.875 percent. It may be unfriendly to preference shareholders, but it's friendly to ordinary shareholders.

Lloyds Banking Group Plc faced a similar situation with its so-called ECN securities, which paid an extremely generous coupon. The lender went through a long, but successful court battle to redeem them. That precedent may have emboldened Aviva.

But Aviva has caused a stink and risks hurting its reputation in the eyes of some investors. Maybe it thinks this doesn't matter because preference shares won't count toward regulatory capital in a few years. A simple buyback at market rates might still have got the job done quietly, avoided sharp price movements and a potential protracted legal fight.

Aviva's Fight to Redeem the Irredeemable

By design or accident, Aviva has sent a stark warning to the wider market. Thanks to regulators, these securities -- highly valued by individual investors and pension funds -- look increasingly like an endangered species. Little wonder the wider collateral damage.

This column does not necessarily reflect the opinion of Bloomberg LP and its owners.

Chris Hughes is a Bloomberg Gadfly columnist covering deals. He previously worked for Reuters Breakingviews, as well as the Financial Times and the Independent newspaper.

Marcus Ashworth is a Bloomberg Gadfly columnist covering European markets. He spent three decades in the banking industry, most recently as chief markets strategist at Haitong Securities in London.

To contact the authors of this story: Chris Hughes in London at chughes89@bloomberg.net, Marcus Ashworth in London at mashworth4@bloomberg.net.

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