The leveraged finance market is back in dire straits on both sides of the Atlantic.
Stalled high-yield debt for the Alltel and Houghton Mifflin deals show how credit offerings are again being pulled from syndication, and bookrunners are scrambling to discount deals to lure investor support. Sources predicted that the high-yield market has entered hibernation until at least January.
In contrast to July and August, when the market tanked due to the sudden flight of liquidity, the current bearishness in the high-yield market is more credit focused. With oil near $100 a barrel and questions arising about banks’ capital stores, the latest crisis relates as much to an increasingly dismal macroeconomic sentiment and risk aversion as it does to the still shallow liquidity pool.
“The situation is grim,” an investment banker in Europe said. “It feels like a repeat of history. At the macro level there are bank results, write-downs, nervousness in equities all pressing down on the market. There is a now a real fear of recession adding to the gloom. There is a batten-down-the-hatches attitude in the market—even if it means selling below par. Just like in July, a strong order book on a given deal can evaporate as the market goes south.”
A case in point is the $24 billion bond and loan package to fund cellular-service provider Alltel’s $27.5 billion buyout by
Other recently priced U.S. deals have also underperformed and issuers are postponing new offerings, refusing to pay the significant price concessions needed to get deals done.
On Nov. 16, the day the Alltel acquisition closed, underwriters placed $3.2 billion of the term loan B3 at 275 basis points over LIBOR at a steep discount of 96 cents on the dollar. That has since traded down as much as a point. The remaining $10.8 billion term loan commitment was funded by the underwriters (all with 275 basis point coupons). Earlier, the company postponed its $1 billion eight-year cash pay offering due to adverse market conditions, having seen little interest from the buyside even at an 11 percent yield.
Alltel did price a $1 billion 10-year PIK-toggle offering at a huge discount of 91.50 cents. The principal buyers were TPG and Goldman Sachs themselves, according to our sources. Only two to four other accounts also got in on the deal, our sources said.
The remaining $1.5 billion in PIK toggles was bridged. Underwriters Citi, Goldman Sachs, Barclays and Royal Bank of Scotland are also still stuck with $5.2 billion in cash pay notes.
The equally bleak outlooks on both side of the Atlantic are evident in the failure to win commitments for Houghton Mifflin’s $7.15 billion of senior and mezzanine acquisition loan financing through Credit Suisse, Lehman Brothers and Citi. Commitments were due earlier last month but, like other deals in the market, it failed to gain support from increasingly risk-averse investors. Houghton Mifflin is buying several publishing divisions of Reed Elsevier.
There is speculation that the deal will now be pulled or could be offered at a significantly discounted price of about 96 cents on the dollar on the senior and second-lien tranches. The situation will be a huge disappointment to bookrunners because the deal offered aggressive pricing, and arrangers had hoped to find backing for the deal both in Europe, where the business has been headquartered, and in the United States, where the bulk of its revenue is generated and where banks had hoped to find liquidity to support the deal.
Smaller corporate issuers in the U.S. high-yield market have also gone by the wayside in the past two weeks. Quebecor World and Sequa withdrew or delayed their bond offerings last week, while a host of bond deals were postponed in the previous week. Given the harsh climate, new issues in the United States originally expected for December are not likely to be seen until 2008.
“Deals can still get done from seasoned issuers for $1 billion or less, but they will have to offer significant price concessions,” said one U.S. capital markets head. “Otherwise, the market looks pretty much shut for the rest of the year.”
Said one high-yield trader: “There is no chance of a high-yield deal in Europe—anyone coming with a deal would have to be blind or desperate.” The trader added: “There should be some price that a deal could be done at, but right now I’m not sure that is true.” In Europe, the high-yield market has already been shut since July, and it has now become increasingly difficult to sell down the backlog of syndicated loans.
“There are in the region of 30 deals out there and only a handful have a chance of closing, and then only with realistic discounts,” one banker said. “Arrangers need to do deals flat to generate interest. There is no point in trying to be greedy about fees when investors are not only in a position to be selective between credits but can decide not to take on any new risk at all.”
Glimmers of hope are few, but some bankers are taking solace in the hope that buyers have built up large cash positions during the months of slow activity—and that buyers will be willing to spend this money when the new year arrives. “Liquidity should reopen the market,” said the U.S. capital markets head. “Given the current lack of new issuance and very light trading in the secondary market, there will be a significant build-up in cash which could reactivate the market come January.”
In Europe, an investment banker sized up the liquidity landscape: “Banks can be brought into some deals on a relationship basis, especially for bigger credits. CLO bid is scarce but would rather invest than not and prefers to buy in primary right now and will look at deals that reflect new-era CLO cost of funds; a large deal for a good credit paying 325bp–350bp over Libor will be looked at. Hedge funds will always invest when they see value but are not going to buy if they are worried about prices falling tomorrow.”
With three full business weeks to go before the holiday wind-down, no one is optimistic about shifting paper. With the overhang growing rather than shrinking, sell-down strategists are looking at holding paper deep into 2008.
Joy Ferguson and Donal O’Donovan cover leveraged lending for IFR, a sister publication of Thomson Financial.