MINING MARKET & INVESTMENT NEWS – QUERY — Pegasus shareholders unlikely to get new shares

I would like to submit the following information on Pegasus Gold: The annual report, May 1998, indicated that Alleghany Corp. held 3 million shares. In September 1998, my broker contacted the legal counsel for Alleghany, who told him Alleghany no longer held any shares of Pegasus. He refused to disclose when the shares were sold or at what price. Did Alleghany make a deal to sell the shares to Pegasus management or on the open market? At what price?

The chief executive officer of Pegasus, Werrner Nennecker, held 516,275 shares. Does he still hold them, or did the company repurchase these shares? As far as we know, there was no notification of sales by insiders published; the same applies to directors and executive officers who held a total of 1.43 million shares.

Pegasus has instituted a lawsuit against the engineering-procurement-construction-management contractor who completed the feasibility study and construction of the plant for A$272 million. Pegasus also stated its intention to sell the facility.

What happens to the funds obtained from the lawsuit or sale if Pegasus reorganizes to form a new company? What about the shareholders’ equity?

If the purpose of Chapter 11 [of the U.S. Bankruptcy Code] is the protection of shareholders, how are these bankruptcy proceedings legitimate?

Hyman Kaplan,

Lincolnwood, Ill.

Pegasus Gold (PSGQF-O) sought protection from its creditors in January 1998, after a disastrous year in 1997 that included the failure of its Mt. Todd mine in Australia, and a sharp decline in the gold price that wiped away its profitability. At the end of 1997, Pegasus had US$202 million in assets and US$358 million in liabilities, for a negative net book value of US$156 million.

Of the total liabilities, $307.8 million was “subject to compromise,” meaning that the actual amount paid on the debts would be negotiable under a plan of reorganization. The largest items were US$115 million in convertible subordinated notes, the company’s site closure undertakings, which amounted to US$86 million, and a US$62-million revolving credit facility.

In its most recent quarterly financial statements, Pegasus showed assets of US$145 million and liabilities of US$329 million, for a shareholder’s deficit of US$184 million. Liabilities of US$306 million were subject to compromise.

Currently, the company is awaiting a hearing on its reorganization plan, submitted to the federal bankruptcy court in Reno, Nev., last July 31. Under the plan, secured creditors of Pegasus or its subsidiaries will receive either the full amount of the debt, or a negotiated settlement, or the collateral of their loan. Unsecured creditors of Pegasus Gold and several of its subsidiaries will receive a settlement proportionate to the debt owed them from whatever cash remains. The individual subsidiaries that operate the Pegasus mines (for example, Montana Tunnels Mining) will settle debts with vendors by paying three-quarters of the debt in cash and the rest in stock of the reorganized Pegasus Gold.

Shareholders of the existing company, be they insiders or minority shareholders, get nothing.

The court has so far approved the company’s disclosure statements (the financial information that must be supplied to the court under the Bankruptcy Code) and will rule on the plan on Dec. 7 following hearings on Dec. 3 and 4. Now to your questions.

On the Alleghany holdings: Pegasus has remained a reporting issuer in Ontario, which obliges insiders, including holders of more than 10% of a company’s shares, to report any trading. From the time the company reported its principal shareholders, April 30, to date, there were no insider trades in Pegasus reported to the Ontario Securities Commission, so there is no public record of sales by Alleghany to directors or officers of Pegasus. Alleghany could conceivably have recognized that it was unlikely to get anything out of the reorganization, and decided to write off the investment and sell the shares at market value.

On the holdings of insiders: no sales by insiders were reported between May and November this year, and, as far as we can determine, the company has not bought back any shares either. No doubt the courts and the creditors expect Pegasus to do better things with its limited cash than buy back its own shares.

If Pegasus receives anything for the sale of the Mt. Todd mine, or any of its other assets offered for sale under the reorganization plan, the proceeds of the sale will have to be applied to the claims of the creditors. Similarly, the court would most likely provide that any settlements of claims Pegasus has made against its contractors will accrue to the creditors.

It’s not for us to say whether the bankruptcy proceedings are legitimate or not; they certainly have conformed to the U.S. Bankruptcy Code thus far. Whether the courts do a good job settling Pegasus Gold’s affairs is an open question, but shareholders should keep in mind that the Bankruptcy Code mainly exists to protect creditors, not equity shareholders.

What about the shareholders’ equity? There is none: there is a shareholder’s deficit (a negative book value) of US$184 million. The good thing for shareholders is that the creditors don’t get to go after you for that money.