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PRODUCTS: EXPANDED DEBT CAPACITY (Affordability Products)
Amsterdam Institute of Finance Joseph V. Rizzi November, 2009
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Expanding Debt Capacity
Rising purchase price multiples and ROE concerns drove acquirers to seek ways to expand their debt capacity. Some of the most common techniques are: Adjusted (Increased) EBITDA - Operating improvements - Normalization Asset Sales - Bridges to asset sales - Liquidity is key in case bridge cannot be taken out Innovative Securities - Defer interest - Push out amortization - Increase flexibility 2 2 Amsterdam Institute of Finance November, 2009
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Amsterdam Institute of Finance
Debt Options Term Amortization Covenant Call Seniority Secured Revolver 5 – 7 Bullet FULL YES Term Loan A 40% in first 5 years Institutional Term Loans 7 - 8 1% per annum / bullet Covenant Lite 8 - 10 1% per annum / Bullet LIGHT PREMIUM Mezzanine 10 + NO Depends High Yield Holding Company PIK Bridge Term Loans 1 - 3 Securitization 1 - 5 Revolver with Borrowing Base Second Lien 8-9 Bifurcated Lien (cross lien) 8-10 1% P.A./Bullet Yes Partial Unsecured 1-10 No OPCO/PROPCO 10+ The above table shows the features of different debt options available to issuers The availability of the different options is subject to market conditions 3 Amsterdam Institute of Finance November, 2009
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Amsterdam Institute of Finance November, 2009
Innovative Securities Institutional Investors/Relative Value Considerations Innovative securities allow for the expansion of debt capacity by one or more of the following mechanisms: Reduce Annual Debt Service - Reducing cash interest expense - Lengthen duration (Reduce/Delay amortization) Increasing Flexibility - Covenants - Public Disclosure - Cash flow control - Call Premium - Bridging - Partial/fully Unsecured Tranching (sequential ordering of payment or priorities) - Holding Company instruments - Restricted Subsidiaries - Second lien/bifurcated collateral-crossing liens - Senior/Subordinated Cost – Second Lien vs Mez 4 4 Amsterdam Institute of Finance November, 2009
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Amsterdam Institute of Finance November, 2009
Understand the motivation behind the structure Satisfy the demands of the bank group lending at the operating level Tax driven Provide greater financial flexibility to re-lever Position the company to make an acquisition Tap unserved investor base Understand how they will fare in insolvency Understand how they are priced 5 5 Amsterdam Institute of Finance November, 2009
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Amsterdam Institute of Finance November, 2009
Holding company debt relies on funds from the sub through dividends or tax sharing agreements may be secured by the stock of the operating subsidiary the exercise of the pledged shares by the bondholders at the holding company may constitute a change of control provision of the debt at the subsidiary may be guaranteed through upstream guarantees may contain cross default clauses to the debts of other entities Measure effective leverage through use of consolidated financial statements Look for multiple leveraging or the use of debt borrowed at one entity as equity in another to support further leveraging 6 6 6 6 Amsterdam Institute of Finance November, 2009
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Amsterdam Institute of Finance November, 2009
Second Lien Loans Senior Secured, but with Junior or Second Lien Higher default Lower recovery Originally developed as Rescue Finance Competing with EURO Mezzanine Investors – hedge funds and CLO Formerly Attractive Pricing: Spread differential between Second Lien and First Lien 350 BP. Issues: - Inter-creditor - Standstill Agreement - Obligations - New Investors Behavior in a Workout - CLO Rating Impact 7 7 Amsterdam Institute of Finance November, 2009
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Amsterdam Institute of Finance November, 2009
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Amsterdam Institute of Finance
October 22, 2009 Amsterdam Institute of Finance November, 2009
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Amsterdam Institute of Finance
November, 2009
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Amsterdam Institute of Finance November, 2000
Covenant Lite Covenant Issues Creditor – preserve deal; recovery value Debtor - flexibility Covenant Lite – liquidity vs. structure Similar to Investment Grade One or No Financial Covenants Rating Agency impact on CLO Volume US 1H07 – 104B (35% of loans) 3H07 – Virtually 0 Europe – Shut down 1Q08 difficult 11 11 Amsterdam Institute of Finance November, 2000
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‘OpCo \ PropCo’ Financing (1)
By structuring the financing of a pool of assets with a credit quality stronger than the corporate credit as a whole, ‘OpCo’ \ ‘PropCo’ financing can provide a cost effective source of (acquisition) financing. Example:- Target company de-merged into ‘PropCo’, which owns the real estate assets, and ‘OpCo’, the operating company. Banks finance ‘PropCo’ acquisition of properties at agreed Loan to Value ratio. ‘PropCo’ leases the real estate assets to ‘OpCo’. ‘PropCo’ debt refinanced by traditional Property Lenders or via Commercial Mortgage Backed Securities (CMBS) market. ‘OpCo’ required to service the acquisition debt not assumed by ‘PropCo’. 12 12 Amsterdam Institute of Finance November, 2009
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Amsterdam Institute of Finance November, 2009
‘OpCo \ PropCo’ Financing (2) BidCo Financing Notes Approx. 100% Approx. 100% OpCo PropCo Rental Payments 13 Amsterdam Institute of Finance November, 2009
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Amsterdam Institute of Finance
Asset Securitization Requirements: Stable and resilient cash flows from business Control over cash flows through sale of assets or adequate legal structure Target investment grade rating to maximize access to investors and lower cost of capital Different leverage measurements Issues Favorable bankruptcy laws Inter-creditor issues Flexibility Closed: 2H07 to present 14 14 Amsterdam Institute of Finance November, 2009
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Amsterdam Institute of Finance
High Yield Bonds Longer Term Bonds 7-10 years and longer 4/5 NC Public or Private Usually issued in private form with exchange rights Pricing would step up if bonds not public within short period (say 180 days of close) Usually issued as subordinated debt but can also be senior unsecured Markets US - $871B size Euro - €65B size 15 15 Amsterdam Institute of Finance November, 2009
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Amsterdam Institute of Finance
Registration Rights Amsterdam Institute of Finance November, 2009
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Amsterdam Institute of Finance
Key High Yield Terms Registration Rights Issuer Status Degree of Subordination Limitations on liens Limitations on indebtedness Restricted payments Asset sales Change in control 17 17 Amsterdam Institute of Finance November, 2009
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European Mezzanine Terms
Covenants * Extensive (bank type) * Maintenance basis (tested quarterly) Security * Second secured Call Provisions * Generally callable immediately (103,102,101) Maturity * Ten year Pricing * LIBOR bps (400 cash, 400 PIK) * Warrants for total return (15-17%) Liquidity * Low Disclosure: * Limited Marketing * No research coverage, no roadshow Rating Requirements * None 18 18 Amsterdam Institute of Finance November, 2009
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Amsterdam Institute of Finance November, 2009
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Amsterdam Institute of Finance November, 2009
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Bifurcated Collateral (Crossing Liens)
Joe Rizzi Presentation for AIF - October 2006 Bifurcated Collateral (Crossing Liens) Trend: Increasing segmentation of loans with reduced covenant or collateral Percentage of institutional loans with impaired covenants or collateral 1H %, 2H07-Nil % Breakdown H07 47% 11% Second Lien 6.4% Bifurcated 23% Covenant Lite 7% Unsecured Bifurcated/Crossing Liens – See HCA for an example Asset backed revolving credit backed by first lien or receivables and inventory Term loans back by lien on other non-current assets Property, plant and equipment Stock pledge Pricing premium – 100 bps compared to revolver Inter-creditor complications 21 Amsterdam Institute of Finance November, 2009
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Amsterdam Institute of Finance
PIK Pay if you can toggle Eats up equity Characteristics PIK SLL Spread 825/900 500 Toggle n/a Term 7.5-10 9.5 Call 5xNC n/a Leverage 6.5x+ 6x+ (Source: LCD) 22 22 Amsterdam Institute of Finance November, 2009
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Amsterdam Institute of Finance
Stapled Financing Staple financing term sheet to deal book Be prepared to fund Establishes ceiling Conflicts of interest 23 23 Amsterdam Institute of Finance November, 2009
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Amsterdam Institute of Finance
Bridge Loans Equity Bank provides equity Find other equity investors later or keep Reduce PE equity Lowers need for club or larger deals Rationale – pay to play Bonds 24 Amsterdam Institute of Finance November, 2009
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Changing Nature of Leveraged Finance Capital Structures
Joe Rizzi Presentation for AIF - October 2006 Changing Nature of Leveraged Finance Capital Structures Increasing layers of debt Directed at different investors Intercreditors conflicts 2006 – 1H07 Common equity Hybrid preferred (0.5x) PIK notes (0.5x) Unsecured/mezzanine (1x) Carve-out collateral (1x) - securitization - OPCO/PROPCO Second lien loans (1x) Senior secured bank loan (4x) - Amortizing T/LA – 20% - B/C tranches – 80% H07 - Present Common equity Unsecured/mezzanine (1x) Senior secured bank loan (4x) - Amortizing T/LA – 40% - B/C tranches – 60% FDX – 5x + PPX – 7.5 + FDX – 6x + PPX – 8.5 + 25 25 Amsterdam Institute of Finance November, 2009
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HCA: Structuring in Action
HCA – 33 bln USD (corp rating B2/B+) FDX – 6.53x (LTM) PPX – 7.7x Club – Bain, KKR, ML (5 bln) W/W – BofA, JPMC, Citi, ML Debt Package 1st Lien (3.46x) Term Spread Amortization (cum. At maturity) - R/C bln - ABL bln - T/LA bln - T/LB bln - EUR T/L bln 6 7 250 175 50% 7% 2nd Lien (1.33x) - Cash bln - PIK/T bln 8 9.75% 10.0 % 8% Existing unsecured 7.470 bln 2009 7.5 % -- Equity bln EBITDA/I – 1.9x (2007E) EBITDA – CAPEX/I – 1.1x (2007E) 26 26 Amsterdam Institute of Finance November, 2009
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Amsterdam Institute of Finance
HCA Legal Structure Sponsors Management Healthtrust Holdings Equity Merge Acquisition Corp HCA, Inc Bank Loans Existing Notes European subs Sub A Sub B Sub C Sub D Sub E Euro T/L Unrestricted subs Restricted subs (gurantors) 27 Amsterdam Institute of Finance November, 2009
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Impact of Debt Capacity on Purchase Price Multiples
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Purchase Price Multiples
Strategic Buyers Pricing Primarily a function of synergies Financial Buyers Pricing Primarily a function of Debt Capacity (FD/EBITDA)*EBITDA + Equity + Asset Sales Developing The Funded Debt Multiple: Maximum Debt Capacity = [EBITDA/(I + 1/N)] + Asset Sales + Refinancing Multiple = 1/(I + 1/n) Increasing Debt Capacity: i = by decreasing interest expense (rates + spread) 1/n = by lengthening maturities through changes to the structure (bridges, hybrids, etc.) 29 29 Amsterdam Institute of Finance November, 2009
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Amsterdam Institute of Finance
Purchase Price Matrix Assuming an acquisition where the Target’s EBITDA is $100 mln, the maximum purchase price that could be paid given the sponsor’s desired level of equity injection and the amount of leverage that the market will bear. Equity Contribution 10% 15% 20% 25% 30% 35% 40% 3.0x 333 353 375 400 429 462 500 3.5x 389 412 438 467 538 583 4.0x 444 471 533 571 615 667 4.5x 529 563 600 643 692 750 5.0x 556 588 625 714 769 833 5.5x 611 647 688 706 800 917 6.0x 857 923 1,000 6.5x 722 765 813 867 929 1,083 7.0x 778 824 875 933 1,077 1,167 7.5x 882 938 1,071 1,154 1,250 Leverage Multiple 30 30 Amsterdam Institute of Finance November, 2009
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Amsterdam Institute of Finance
Purchase Price Matrix As can be seen below, when the leverage multiple decreases, the required equity contribution can increase significantly. Depending on the buyers internal rate of return requirements, this may or may not cause them to abort the transaction. Equity Contribution 10% 15% 20% 25% 30% 35% 40% 3.0x 333 353 375 400 429 462 500 3.5x 389 412 438 467 538 583 4.0x 444 471 533 571 615 667 4.5x 529 563 600 643 692 750 5.0x 556 588 625 714 769 833 5.5x 611 647 688 733 786 846 917 6.0x 706 800 857 923 1,000 6.5x 722 765 813 867 929 1,083 7.0x 778 824 875 933 1,077 1,167 7.5x 882 938 1,071 1,154 1,250 Leverage Multiple 31 31 Amsterdam Institute of Finance November 2009
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Purchase Price Multiple Amsterdam Institute of Finance
Purchase Price Matrix The shaded area of the chart below reflects the financing gap that develops when leverage multiples do not keep up with increasing purchase price multiples. Innovative securities have been developed to close the financing gap. Debt Multiple 2.00 2.50 3.00 3.50 4.00 4.50 5.00 160 110 60 10 (40) (90) (140) 200 150 100 50 - (50 )100) 5.50 240 190 140 90 40 (10) (60) 6.00 280 230 180 130 80 30 (20) 6.50 320 270 220 170 120 70 20 7.00 360 310 260 210 7.50 400 350 300 250 8.00 440 390 340 290 8.50 480 430 380 330 9.00 520 470 420 370 Purchase Price Multiple 32 32 Amsterdam Institute of Finance November, 2009
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Amsterdam Institute of Finance
Disclosure This information has been prepared solely for informational purposes and is not intended to provide or should not be relied upon for accounting, legal, tax, or investment advice. The factual statements herein have been taken from sources believed to be reliable, but such statements are made without any representation as to accuracy or completeness. Opinions expressed are current opinions as of the date appearing in this material only. These materials are subject to change, completion, or amendment from time to time without notice and CapGen Financial is not under any obligation to keep you advise of such changes. All views expressed in this presentation are those of the presenter, and not necessarily those of CapGen Financial. 33 Amsterdam Institute of Finance November, 2009
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