Sallie Mae to sell $2.5 billion stock, convertibles

By Dan Wilchins

NEW YORK (Reuters) - Sallie Mae (SLM.N: Quote, Profile, Research, Stock Buzz) said on Wednesday it plans to sell about $2.5 billion of stock and mandatory convertible securities to help pay off derivatives contracts that amounted to a bet that its share price would keep increasing.

The deal will boost the number of shares the student lender has outstanding, and the company's stock fell 7 percent in aftermarket trading to $20.56 from Wednesday's close of $22.13.

Sallie Mae will use about $2 billion of the proceeds from offering to buy back about 44 million shares now worth closer to about $900 million at current market prices.

The student loan company was tripped up by derivatives known as equity forward contracts that it used under its share buyback program for years.

The contracts allowed the company to reduce the cost of buying back its shares, as long as its stock price kept rising. But if Sallie Mae's share price fell enough, the company would have to buy back large number of shares at above-market prices.

Sallie Mae's shares have dropped by more than half this year as its efforts to sell itself to a group of buyout investors failed, and investors fretted that turmoil in the securitization market would lift its borrowing costs and crimp its profits.

That tripped up "triggers" under the equity forward contracts, forcing Sallie Mae to buy back shares at above-market prices.

Sallie Mae, legally known as SLM Corp, is issuing $2.5 billion of common stock and mandatory convertible preferred stock to help pay off its obligations under the derivatives. Whatever funds are left over after settling the contracts will be used for general corporate purposes, Sallie Mae said.