1. NYU Stern School of Business
How Risky are Private Equity Sponsored LBOs
Dr. Edward Altman
NYU Stern School of Business
MacQuarie University
Sydney, Australia
November 09, 2015 1 1 1 1

2. Research Objectives
To assess the default and loss rate on PE-Sponsored LBOs
To analyze the default risk of PE-Sponsored LBOs compared to comparably rated corporate bonds
Null Hypothesis: That the LBO mortality (Default) Rate is the same as the rate on comparably rated corporate bonds
The first study to utilize the mortality rate concept to analyze the Leveraged Buy-Out market over the last 20 years; no migration bias
The study utilizes two unique databases: (1) an institutional loan-based LBO database; (2) a comprehensive loan and bond default database matched to the LBO sample
Source of LBO transaction data: S&P LCD; Source of default data: NYU Salomon Center Master Default, Chapter 11 Filings & Defaulted Securities Pricing Databases
In addition to LBO default rate estimates, we also explore investor loss estimates; Investor returns not available

3. Sample Characteristics
Sample of U.S. Dollar LBOs includes only those large, highly-leveraged financed transactions that involve institutional loan issuance
A total of 747 individual PE-sponsored LBOs analyzed, consisting of 980 loan issues
Involving LBOs from December 1994 through April 2012
Involving 862 observations stratified by their implied bond rating (IBR) or by their original S&P loan rating (OLR) (it’s possible that a single issuer had multiple loans at different implied & original ratings)
Total dollar amount of loan issuance equaled $592 billion
Mean loan size $604 million; median loan size $270 million
IBR based on a 2-notch reduction from the original loan rating
Default incidence
Defaults include bankruptcies, missed interest payments, & distressed exchanges
Total number of individual LBO defaults equals 126
Total number of defaults by IBR equals 145
Total loan dollar amount of defaults equals $150 billion
Largest defaulters: TXU, Clear Channel, Caesars and Tribune

4. Mortality Rate Methodology

5. Marginal and Cumulative Mortality Rate Actuarial Approach
total value of defaulting debt from rating (r) in year (t)
total value of the population at the start of the year (t)
MMR(r,t) =
MMR = Marginal Mortality Rate
One can measure the cumulative mortality rate (CMR) over a specific time period (1,2,…, T years) by subtracting the product of the surviving populations of each of the previous years from one (1.0), that is,
CMR(r,t) = 1 -  SR(r,t) ,
t = 1 N
r = AAA CCC
here CMR (r,t) = Cumulative Mortality Rate of (r) in (t),
SR (r,t) = Survival Rate in (r,t) , 1 - MMR (r,t)

6. Mortality Rate Concept (Illustrative Calculation)
For BB Rated Issues
Security Issued Year 1 Year 2
No. Amount Default Call SF Default Call SF
NE NE NE
NE NE NE
Total 1,
Amount
Start of 1, ,
Period
- - - =
Year 1 Year 2
Marginal
Mortality 50/1,500 = 3.3% 100/1,325 = 7.5%
Rate
1 - (SR1 x SR2 ) = CMR2
Cumulative Rate 3.3% 1 - (96.7% x 92.5%) = 10.55%
NE = No longer in existence
SF = Sinking fund

7. Mortality Rates by Original Rating
All Rated Corporate Bonds*
Years After Issuance
*Rated by S&P at Issuance
Based on 2,847 issues
Source: Standard & Poor's (New York) and Author's Compilation 7

8. Mortality Losses by Original Rating
All Rated Corporate Bonds*
Years After Issuance
*Rated by S&P at Issuance
Based on 2,354 issues
Source: Standard & Poor's (New York) and Author's Compilation 8

9. Empirical Findings

10. Number of Issuers BB 230 B 547 CCC/CC 84 Total 861 BB 15 B 539 CCC/CC
By Original Loan Rating (OLR) BB
230 B
547
CCC/CC 84
Total
861
By Implied Bond Rating (IBR) BB 15 B
539
CCC/CC
308
Total
862

11. Number of Defaulted Issuers by Years After Issuance
By Implied Bond Rating (IBR)
Years After Issuance to Default 1 2 3 4 5 6 7 8 9 10
Totals BB B 17 16 13 11 90
CCC/CC 12 54 28 26 25 14
145
By Original Loan Rating (OLR)
Years After Issuance to Default 1 2 3 4 5 6 7 8 9 10
Totals BB 33 B 21 19 99
CCC/CC 18 15 31 27 30 14 16
150

12. Cumulative Mortality (Default) Rates by Dollar Amount (U. S
Cumulative Mortality (Default) Rates by Dollar Amount (U.S.) Based on IBR
For LBOs by Implied Bond Rating (IBR) at Issuance ( ) – Mortality Rates 1 2 3 4 5 6 7 8 9 10 BB
0.00%
22.99%*
22.99% B
1.86%
5.52%
14.27%
15.65%
16.69%
17.65%
17.83%
21.25%
22.42%
22.58%
CCC/CC
11.82%
18.82%
24.91%
27.31%
30.21%
30.56%
34.03%
34.81%
35.91%
*from 1 large Distressed Exchange by Freescale Semiconductor.
For High-Yield Bonds by Original Bond Rating at Issuance ( )** - Mortality Rates 1 2 3 4 5 6 7 8 9 10 BB
0.95%
2.96%
6.75%
8.58%
10.73%
12.10%
13.39%
14.37%
15.61%
18.27% B
2.86%
10.38%
17.42%
23.87%
28.22%
31.42%
33.86%
35.24%
36.39%
36.87%
CCC
8.15%
19.58%
33.99%
44.78%
47.37%
53.43%
55.97%
58.11%
58.40%
60.19%
**from: E. Altman and B. Kuehne “Defaults and Returns in the High-Yield Bond and Distressed Debt Market: The Year 2014 in Review and Outlook”, Paulson and Co. and the NYU Salomon Center, January 30, 2015.

13. Cumulative Mortality (Default) Rates by Number of Issuers (U. S
Cumulative Mortality (Default) Rates by Number of Issuers (U.S.) Based on IBR
For LBOs by Implied Bond Rating (IBR) at Issuance ( ) – Mortality Rates 1 2 3 4 5 6 7 8 9 10 BB
0.00%
6.67% B
0.37%
2.23%
5.45%
8.59%
11.23%
13.56%
14.21%
16.22%
17.81%
18.27%
CCC/CC
0.65%
2.60%
5.96%
9.39%
13.61%
14.70%
15.82%
18.47%
18.85%
For High-Yield Bonds by Bond Rating ( )* - Default Rates 1 2 3 4 5 6 7 8 9 10 BB
0.87%
2.69%
4.90%
6.98%
8.83%
10.65%
12.18%
13.56%
14.84%
15.96% B
4.23%
9.62%
14.26%
17.91%
20.73%
23.03%
24.94%
26.45%
27.76%
29.01%
CCC/C
27.98%
38.53%
44.43%
48.25%
51.25%
52.52%
53.76%
54.67%
55.82%
56.58%
*from: “Default, Transition, and Recovery: 2013 Annual Global Corporate Default Study and Rating Transitions”, Standard & Poors Ratings Direct, March 19, 2014.

14. Cumulative Mortality Rates for LBOs Based on OLR at Issuance (U.S.)
By Dollars 1 2 3 4 5 6 7 8 9 10 BB
3.10%
4.19%
8.96%
9.80%
10.31%
11.07%
11.22%
15.78%
16.61%
16.75% B
5.36%
12.27%
23.70%
25.78%
27.79%
28.61%
30.23%
31.45%
32.83%
32.93%
CCC/CC
0.00%
0.90%
4.85%
7.82%
13.77%
15.08%
17.23%
By Number of Issuers 1 2 3 4 5 6 7 8 9 10 BB
0.43%
2.17%
4.87%
6.72%
8.15%
10.09%
11.07%
13.56%
15.09%
15.60% B
0.55%
2.38%
6.31%
10.00%
13.80%
15.90%
16.56%
18.35%
19.47%
19.70%
CCC
0.00%
1.19%
6.13%
11.20%
17.83%
19.22%
23.40%

15. Cumulative Mortality Losses by Dollar Amount
For LBOs by Implied Bond Rating (IBR) at Issuance 1 2 3 4 5 6 7 8 9 10 BB
0.00%
19.65%*
19.65% B
0.12%
1.54%
5.50%
6.63%
7.48%
7.80%
7.98%
9.71%
10.44%
10.52%
CCC/CC
5.18%
12.02%
15.71%
17.39%
18.71%
18.74%
20.92%
21.44%
*from 1 large Distressed Exchange by Freescale Semiconductor.
For High-Yield Bonds by Original Bond Rating at Issuance ( )* 1 2 3 4 5 6 7 8 9 10 BB
0.56%
1.73%
3.99%
5.07%
6.33%
7.02%
7.75%
8.20%
8.88%
9.89% B
1.92%
7.23%
12.18%
16.76%
19.90%
21.86%
23.68%
24.56%
25.26%
25.65%
CCC
5.38%
13.61%
24.45%
33.14%
35.36%
40.95%
43.36%
45.28%
45.51%
47.01%
*from: E. Altman and B. Kuehne “Defaults and Returns in the High-Yield Bond and Distressed Debt Market: The Year 2014 in Review and Outlook”, Paulson and Co. and the NYU Salomon Center, January 30, 2015.

16. Cumulative Default Rates by Number of Issuers (Europe)
For High-Yield Bonds by Bond Rating ( )* 1 2 3 4 5 6 7 BB
0.57%
1.76%
2.93%
3.69%
4.63%
5.68%
6.73% B
3.30%
8.26%
12.28%
14.81%
16.62%
17.81%
18.26%
CCC/C
31.76%
38.10%
40.01%
41.16%
42.84%
44.96%
*from: “Default, Transition, and Recovery: 2013 Annual Global Corporate Default Study and Rating Transitions”, Standard & Poors Ratings Direct, March 19, 2014.

17. Conclusions
Summary Default Statistics for PE-Sponsored LBOs from
(Leveraged Loan Transactions):
Number of Individual LBO Defaults: 126
Number of Issuer Defaults by Original Loan Rating: 150
Dollar Amount of Defaults: $150 billion
Default Statistics Within 5 Years of Original Transaction Date
11.2% of Individual LBOs Defaulted
12.1% (13.6% ,including exits) of the Number of LBO Loan Issues Defaulted
11.5% (12.9%, including exits) of all LBOs defaulted by Implied Bond Ratings
20.1% (21.2% , including exits) of all LBOs defaulted by Loan Dollar Amount
Private Equity Sponsored LBOs had Significantly Lower Cumulative Mortality (Default) Rates than did Comparably Rated Corporate Bonds over the Last Two Decades
Similar Results for Default Losses

18. Remarks
Possible Positive Reasons for Lower Default Rates, and Losses, on PE-Sponsored LBOs compared to Comparably Rated Corporate Bonds:
Greater Access to Capital by PE-Sponsored LBOs
Greater Funds to Support Ailing Companies
Better Portfolio Management and Management Support Techniques than Stand-Alone Companies
Better and Cheaper Access to Traditional and “Shadow Banking” Funds
LBO Management More Heavily Invested in Success; More “Skin in the Game”
Private Firm versus Public Firm Flexibility
Rating Agency Bias in Rating LBOs?
Possible Negative Reasons for Higher Default Rates and Losses:
Asset Stripping (Crown Jewels) to Repay Debt (Could Work Both Ways)
Subsequent Debt Issuance to Pay-out Dividends to Owners

19. Current Lbo and Default statistics

20. Historical H.Y. Bond Default Rates
Straight Bonds Only Excluding Defaulted Issues From Par Value Outstanding, (US$ millions), 1971 – (10/15))
Year
Par Value Outstandinga
($)
Par Value
Defaults ($)
Default Rates
(%)
2014
1,496,814
31,589
2.110
2013
1,392,212
14,539
1.044
2012
1,212,362
19,647
1.621
2011
1,354,649
17,963
1.326
2010
1,221,569
13,809
1.130
2009
1,152,952
123,878
10.744
2008
1,091,000
50,763
4.653
2007
1,075,400
5,473
0.509
2006
993,600
7,559
0.761
2005
1,073,000
36,209
3.375
2004
933,100
11,657
1.249
2003
825,000
38,451
4.661
2002
757,000
96,855
12.795
2001
649,000
63,609
9.801
2000
597,200
30,295
5.073
1999
567,400
23,532
4.147
1998
465,500
7,464
1.603
1997
335,400
4,200
1.252
1996
271,000
3,336
1.231
1995
240,000
4,551
1.896
1994
235,000
3,418
1.454
1993
206,907
2,287
1.105
1992
163,000
5,545
3.402
1991
183,600
18,862
10.273
1990
181,000
18,354
10.140
1989
189,258
8,110
4.285
1988
148,187
3,944
2.662
Year
Par Value Outstanding* ($)
Par Value
Defaults ($)
Default
Rates
(%)
1987
129,557
7,486
5.778
1986
90.243
3,156
3.497
1985
58,088
992
1.708
1984
40,939
344
0.840
1983
27,492
301
1.095
1982
18,109
577
3.186
1981
17,115 27
0.158
1980
14,935
224
1.500
1979
10,356 20
0.193
1978
8,946
119
1.330
1977
8,157
381
4.671
1976
7,735 30
0.388
1975
7,471
204
2.731
1974
10,894
123
1.129
1973
7,824 49
0.626
1972
6,928
193
2.786
1971
6,602 82
1.242
Standard
Deviation
(%)
Arithmetic Average Default Rate (%)
1971 to 2014
3.117
3.097
1978 to 2014
3.340
3.273
1985 to 2014
3.843
3.416
Weighted Average Default Rate (%)*
3.491
3.496
3.513
Median Annual Default Rate (%)
1.664
2015 (10/15)
1,595,839
35,414
2.219
Source: Author’s compilation and Citigroup/Credit Suisse estimates
a Weighted by par value of amount outstanding for each year. 20

21. Quarterly Default Rate and Four-Quarter Moving Average
Default Rates on High-Yield Bonds
Quarterly Default Rate and Four-Quarter Moving Average
1989 – 2015 (3Q - Preliminary)
Source: Author’s Compilations 21

22. Historical Default Rates and Recession Periods in the U.S.
High-Yield Bond Market (1972 – 2015 (3Q - Preliminary))
Periods of Recession: 11/73 - 3/75, 1/80 - 7/80, 7/ /82, 7/90 - 3/91, 4/01 – 12/01, 12/07 - 6/09
*All rates annual, except 3Q 2015 which is the LTM.
Source: E. Altman (NYU Salomon Center) & National Bureau of Economic Research

23. Purchase Price Multiple excluding Fees for LBO Transactions
Purchase Price Multiples
Purchase Price Multiple excluding Fees for LBO Transactions
N/A
N/A
(# obs.)
Source: S&P Capital IQ LCD

24. Average Total Debt Leverage Ratio for LBO’s:
Europe and US with EBITDA of €/$50M or More
Source: S&P Capital IQ LCD

25. Maturity Profile of Leveraged Debt – As of 12/31/14
Source: S&P Capital IQ LCD