This page has been archived and commenting is disabled.
Private Equity’s Trojan Horse of Debt?
Submitted by Leo Kolivakis, publisher of Pension Pulse.
Gretchen Morgenson of the NYT reports on Private Equity’s Trojan Horse of Debt:
Whenever savvy private equity firms sell debt in the companies they own, buyer beware.
That’s the lesson — learned the hard way — for bondholders in Wind
Hellas, a Greek mobile phone operator whose parent company defaulted on
some of its debt payments last November.
A
once-healthy company that is Greece’s third-largest mobile phone
operator, Wind Hellas was taken over in a 2005 buyout by two global
private equity giants: Apax Partners out of London and the Texas
Pacific Group, led by David Bonderman. The two firms larded Wind Hellas with debt before selling it off just two years after they bought it.
Wind Hellas filed for the British equivalent of bankruptcy protection
last fall, and now some investors are trying to figure how such a
promising enterprise went aground. Apax and T.P.G. officials declined
to comment for this column.
But
Bertrand des Pallières, the chief executive of SPQR Capital, a London
investment firm, was one of the larger bondholders in Wind Hellas. He
says the decision by Apax and T.P.G. to heap debt onto the company
while simultaneously extracting so much cash from it ultimately
contributed mightily to its woes.
“The private equity
industry always pitches how constructive it is as an investor force to
create jobs and growth,” says Mr. des Pallières. “But there are private
equity funds that get rich by breaking companies and making others poor
— whether they are creditors, states or employees.”
When the
deal to buy Wind Hellas — then known as TIM Hellas — was struck in
2005, the buyers gave it a nifty code name: “Project Troy.” Apax and
T.P.G. paid 1.1 billion euros for 81 percent of the company; later that
year, they paid 264 million euros more for the rest.
At the
time of the buyout, TIM Hellas was a young company with a history of
operating growth, regulatory filings show. From 1999 to 2004, the year
before the buyout, cash flow at TIM Hellas grew almost 17 percent,
annualized. It generated cumulative earnings of 283 million euros for
the years 2001 through 2004, and by the time of the deal was serving
2.3 million customers.
The company had little debt — 166
million euros — before the buyout and boasted shareholder’s equity of
almost 500 million euros. Then Apax and T.P.G. came calling.
Major banks, including JPMorgan Chase, Deutsche Bank, Lehman Brothers and Merrill Lynch,
financed Project Troy. Apax and T.P.G. put approximately 450 million
euros into TIM Hellas as equity, but this money was returned to the
firms less than a year later after the phone company issued a round of
debt.
The private
equity firms also received consulting fees worth 2 million euros per
year, company filings show. In addition, Apax and T.P.G. received 15
million euros for “business advisory services rendered in connection
with debt placement and preparation of business and strategic plans,”
according to the company’s 2005 annual report.
Under
its private equity owners, TIM Hellas took on debt immediately. By the
end of 2005, the company was carrying 1.26 billion euros in long-term
debt, almost eight times the level a year earlier. Then came the bond
offering of 500 million euros in April 2006 that let Apax and T.P.G.
get their money out of the company. After that deal, Standard & Poor’s cut the company’s debt rating to B, citing “the significant increase in leverage and material weakening of free cash flow.”
Still another trip to the debt markets for TIM Hellas occurred in
December 2006, when it raised roughly 1.4 billion euros. By the end of
that year, the company’s debt load had grown to over 3 billion euros,
20 times the level of two years earlier, before the buyout.At the same time, the company’s financial performance was declining.
Net income at the company rose from 35.9 million euros in 2001 to
almost 80 million in 2004 but shifted to losses in 2005. From 2004 to
2008, the company showed losses totaling 155 million euros.
Perhaps the most interesting part of this tale involves a transaction
that occurred around the time of the December 2006 debt offering. In
that deal, 974 million euros — out of the 1.4 billion euros raised in
the offering — went from the company to Apax and T.P.G. The prospectus
for that transaction described the 974 million euro payout as a
repayment of “deeply subordinated shareholder loans.”
But at
the time of the offering there weren’t any such “shareholder loans”
listed on the company’s balance sheet. In other words, the company was
paying back Apax and T.P.G. for loans that were listed as equity rather
than as debts at TIM Hellas.
Adding
to the mystery, the repayment was made using a peculiar transaction
involving the redemption of “convertible preferred equity certificates”
that TIM Hellas had issued. These exotic securities can be accounted
for as debt or equity, an option that allows companies that issue them
to choose whichever category gives them the most tax advantages in a
given country. TIM Hellas classified the certificates as equity.
TIM Hellas had issued such certificates when it was bought out in 2005,
and as of April 2006, each certificate carried a value of 1 euro,
according to the company’s filings. The company’s 33.8 million
certificates outstanding as of September 2006, therefore, had a value
of 33.8 million euros.
Company filings from September 2006
seemed to assure potential bondholders that TIM Hellas could redeem
these certificates at prices greater than par value or market value
only when “the company does not have any other debt liability to pay or
to provide for with priority” to the certificates.
On
Dec. 21, 2006, however, the certificates were redeemed to pay back
those mysterious “shareholder loans.” And they were redeemed for 35.6
euros each, which generated the 974 million euros used to pay Apax and
T.P.G.
Just 10 days later, as 2006 was drawing to a
close, the value of the equity certificates fell back to 1 euro each,
according to company filings.
Why did the certificates
suddenly spike in value? Neither Apax nor T.P.G. would say. But their
lofty price, according to the debt prospectus accompanying the
transaction, was determined by a friendly crowd: the directors of one
of TIM Hellas’s own subsidiaries.These board members weren’t
identified, but at the time the board of TIM Hellas itself was very
clubby. It consisted of 10 people; six were employees of Apax and
T.P.G., and two were company insiders. The other two directors were
independent.
In February 2007, less than two months after
Apax and T.P.G. snared the windfall from their certificate payout, the
firms sold TIM Hellas for 3.4 billion euros in equity and debt.
Last fall, the parent company for the mobile phone operator now known
as Wind Hellas defaulted on some of its debts, an unhappy situation
that has left Mr. des Pallières, the investor, shaking his head.
“Private equity and banking can be very constructive functions of the
economy, but they will destroy this industry if the leading players do
not regulate themselves,” he says.It’s yet another tale for our times.
I thought David Bonderman was actually one of those PE guys who created
value. Guess I was wrong. The leading PE funds, and the banks that
finance them, are on a rampage and they will end up cannibalizing each
other and the companies they purchase as they attempt to squeeze blood
out of stones.
Of course, they'll do this using your pension
dollars, collecting 2 & 20 in the process of saddling these
companies with as much debt as possible before they carve them up and
sell them off to the highest bidders. Ironically, in the investment
community, we call this "alpha".
»
- advertisements -
I guess having LBOs and PE again might actually be a good thing. Why? Because that would mean assets would be coming to the market at prices that provide good 5 to 7 year ROI numbers. That's just not happening now, for two major reasons.
First, you would need to have the sellers be forced to accept haircuts in what the paid for the assets during the boom years 2002 to 2007. As a lot of these assets reside on the balance sheets of financial institutions, selling them down would put them out of business. If they reside with servicers/special servicers - it just so happens they are paid to service/special service those assets, so why be in a big hurry to dispose of them?
Second difficulty is getting the financing to borrow from the same financial institutions which may in fact hold like type assets.
As long as the Federal government props ups the financial institutions and enables them to put off the reckoning, its slows down the process of getting the assets into the hands of more able stewards, relatively speaking.
We are following the Japanese model quite closely, thank you very much.
Does anyone here think that leveraged buyouts may go the way of the dinosaur, by Congressional mandate or by market forces? I sure hope so, we'd have a lot less debt shenanigans, and frankly, a much more stable economic environment.
Maybe at least this problem somehow solves itself. There is the 'Maturity Wall of 2012' coming along, possible wiping out some or even many of these.
http://wp.me/px1MN-fF
Who would ever buy these toxic bonds? Well maybe it is the same funds who maintain an unachievable rate of return on their pension fund assets.
So as interest rates move closer to zero, the only way to come close to achieving a 8% to 9% is to move out the risk scale.
Probably find them in insurance companies as well for the same reason.
http://www.efinancialnews.com/story/2009-02-16/five-partners-exit-des-pa...
What did you expect. He seems to like to crash things:
A senior pension fund manager sent me this comment which I share with you:
So the foolish bondies, who actually underwrote a money out financing, are not to blame?? Have we all forgotten we had a credit crisis, because decisions like this by institutional fixed income people?? Private equity owners may have weakened the company, but only because fixed income people allowed it to happen, first the banks, then the bond market.
My observation is that the fixed income business, taken over by derivatives traders, has brought our system to its knees. All the rest is aftermath, and noise. Its game on in the trading area, and absolutely nothing has changed.
+ 100
So who are all the bright guys that bought all this debt? These schemes only work when there is an ample supply of fools in the wings willing to finance the debt.
This is an old Mafia scheme. I swear, the entire business model of American business is no different than the mafia.
You take over a succesful business, get a sucker to lend you money to "expand" extract the lent money, than burn the business to the ground and collect the insurance.
I would'nt buy even a crust of bread from PE companies...and would'nt touch debt from companies owned by PEs even with a 10 foot pole.
The theory of the Greater Fool is at work here...PE is a predatory practice that should be cancelled with the force of the law...and of arms, if not enough.
But bondholders here are just The Greater Fools....go cry to momma mate.
I thought they were moving on to devouring whole countries now. My bad.
Why would anyone buy the debt? It obviously is/was not used to build the business. Rating agencies bought off, or CDS involvement?