Banks Chop $100 Billion Off Backlog Of LBO Financings As High-Yield Bond Issues Come Back In Demand

Global Finance, Dec 2007 by Platt, Gordon

CORPORATE FINANCING FOCUS

Prospects have improved for clearing away a huge backlog of leveraged loans and high-yield debt to finance already completed corporate takeovers, thanks to a revival of new issuance in the US high-yield bond market. Nearly $20 billion of new issues came to market in October, up from $6.5 billion in September and only $565 million in August, according to Montpelier,Vermontbased KDP Investment Advisors.That put October right up there with the heaviest new-issuance months of the year.

"October has been a strong month, and there has been good, healthy demand for new issues," says Kingman Penniman, president and chief executive of KDP, which provides data and research on the high-yield market. "The banks are starting to whittle down the backlog of loans and debt to finance leveraged buyouts," he adds.

By obtaining financing in the markets or withdrawing takeover deals, the banks have cut the total backlog of highyield debt and leveraged loans from a peak in July of around $340 billion to about $240 billion as of early November, according to Penniman. "Recent new issues of high-yield bonds have been sufficiendy well received and adequately priced that the market has been able to absorb them," he explains. "We are still seeing a pretty healthy calendar of new issues planning to come to market," he notes.

Credit Crunch Is Not Over

This doesn't mean that the credit crunch is over, Penniman says. "The general concern about a lack of transparency in valuing securities is creating volatility," he says. "Meanwhile, we don't know if SIVs [structured investment vehicles] and commercial paper conduits have been adequately charged off," he adds.

High-yield corporate bond spreads over US treasury securities widened last month to equal their biggest levels of the year recorded in August at the depths of the crisis. "The market got a bit ahead of itself in repricing risk," Penniman says. "There is a realization now that issues have to be priced to sell."

Leveraged loans will probably be the first segment of the credit markets to return to more normal conditions, Penniman says. "The credit metrics for companies are good, and there is still a very low level of defaults," he notes.

Appetite for risk in the credit markets has declined dramatically, with a resultant downward repricing, says Joyce DeLucca, managing principal at Kingsland Capital Management, a New Yorkbased firm that manages and markets collateralized debt obligations and other structured finance vehicles. "There is a large pipeline of LBO financings still due to make their way through the gandet," she says. "Just how things look when that pipeline is complete is the question."

New Underwriting Standards

Whether or not the market absorbs the entire pipeline and how those deals trade after the books close will help determine underwriting standards in the coming quarters, DeLucca says. "We think it could take a year or more to work through the dislocation," she says. "The market has several multi-billion-dollar deals to work through, and even if agent banks are willing to hold some of that exposure on their books to wait for a better day, I wonder about what happens next," she says.

DeLucca says the markets are currently putting on a brave face, which often occurs as cycles turn. "Underwriting banks have stated a willingness to hold certain risks on their balance sheets for some period of time, and so the deals are getting done," she says. "You can be sure that those same banks don't have plans to hold large exposures to the new financings they will underwrite once the current pipeline is complete," she adds.

US consumer spending is likely to weaken as a result of the housing slump, which will have a negative impact on the economy, DeLucca says. "Coupled with tight lending markets, we don't see how the corporate markets can avoid weaker operational results and increasing default levels as companies pay the higher costs of financing, and some cannot get financing at all," she says.

Chrysler Tries Again

As Global Finance went to press, investment banks were attempting to sell up to $7.5 billion in loans for Chrysler's automotive business. The first-lien term loans, which were reduced from an originally planned $8 billion, were expected to carry a price of 400 basis points over the London interbank offered rate, or Libor, with a likely original issue discount. A similar sale was postponed in July amid credit market turmoil. The loans would help finance the leveraged buyout of Chrysler's automotive business from Daimler in August by private equity firm Cerberus Capital Management.

JPMorgan, Bear Stearns, Goldman Sachs, Citi and Morgan Stanley were leading the loan deal, which was planned to come to market shortly after Cerberus narrowly ratified a new contract with the United Auto Workers.

Meanwhile, banks led by Goldman Sachs began to sell $6 billion of loans that will be used to fund Arkansas-based Alltel's $24.7 billion private equity-backed leveraged buyout by TPG, formerly known as Texas Pacific Group, and the private equity arm of Goldman Sachs. The loans were priced at 275 basis points over Libor and were being offered at a discount of 97.5 cents on the dollar. Alltel's banks underwrote $14 billion of loans and a $1.5 billion revolving credit line to help finance the buyout, which was announced in May.