PE-Backed ‘Weakest Links’ List Slims Down By Half In A Year

The number of LBO-sponsored companies in Standard & Poor’s “weakest links” report shrank by half in a year, continuing the recent trend of portfolio companies saying goodbye to the report that looks at entities tagged as most in danger of debt default.

The latest report, “Global Weakest Links And Default Rates: Weakest Links Increased Modestly As The Global Default Rate Continues To Fall,” was published Feb. 14, 2011. Inclusion on the ‘weakest links’ list means an entity has a speculative corporate credit rating of ‘B-‘ or lower with either a negative outlook or on CreditWatch with a negative implication on Feb. 10.

S&P identified 111 “weakest links” entities in the February report, up from the 107 identified in January but down from the 213 in February of last year. The latest count represents total rated debt of $147.68 billion. A year earlier, the companies had combined debt of $197.5 billion. Of the 111, Buyouts counted at least 24 with LBO sponsors in the latest report with combined rated debt of $50 billion. We identified at least 48 with buyout backers during the comparable period a year earlier with an aggregate affected debt of $74.1 billion.

Energy Future Holdings Corp. remains the portfolio company with the largest amount of affected debt. It accounts for a significant chunk of the total for the 24 LBO-backed portfolio companies in the February 2011 report. However, the Dallas-based electric utility gas has seen its affected debt decrease to $36.3 billion from $42.7 billion the last time we reviewed this S&P report. Energy Future Holdings is backed by Kohlberg Kravis Roberts & Co., TPG and GS Capital Partners.

“Media and entertainment” is the industry with the highest concentration of portfolio companies most at risk of a debt default in the February 2011 list with five. The sector held the top ranking a year earlier and at the end of 2010. The section had 11 representatives in February 2010 and six in November. The “chemicals, packaging and environmental services” sector is the only other industry with at least three portfolio companies in the latest listing.

Kohlberg & Co. is the only firm Buyouts identified with at least three investments in S&P’s “weakest links” report in February 2011. None are new additions and all were present this time last year.

There were three additions since the report in November was released. S&P cut its rating on Pregis Corp. to ‘B-’ from ‘B’ in November, citing the Deerfield, Ill.-based company’s financial profile. AES Investors LP added the maker of insulation products to its portfolio in October 2005.

S&P also lowered NCO Group’s long-term counterparty credit rating to ‘CCC+’ from ‘B-‘ in December, and said its negative outlook on the accounts receivables management and outsourcing solutions company reflects the potential for significant pressure on debt covenants. The Horsham, Pa.-based company is backed by OneEquity Partners LLC.

The final addition of the previous three months is Eastman Kodak. S&P placed Eastman Kodak’s ‘B-‘ corporate credit rating on CreditWatch with a negative implication in late January. The move reflects the possibility the image technology company may not have enough liquidity to meets needs in 2011 and 2012. KKR invested $400 million in Rochester, N.Y.-based company in 2009.

The number of companies removed from the “weakest links” list outpaced those added to the report. Some of those deleted benefited from S&P now having a stable outlook on these businesses, including Bain Capital Inc.’s Bombardier Recreational Products Inc. The ratings agency changed its outlook on the maker of recreational products to stable from negative in January. At that time, S&P also raised its corporate credit rating on the Canadian concern to ‘B-’ from ‘CCC’ citing improved operating performance and the termination of Bombardier’s $250 million debt repurchase program.

A couple of other portfolio companies that were removed as a result of improved outlooks include MidOcean Partners’ Hunter Fan Co. and Cerberus Capital Management LP’s Rafaella Apparel Group Inc. In fact, Cerberus Capital exited Rafaella through an $80 million sale to Perry Ellis International Inc. in late January.

Meantime, global corporate defaults by companies owned by U.S.-based buyout shops have drastically slowed down. Just one LBO-backed company received a “D’ rating from S&P through March 11, 2011. Buyouts identified five such companies in default or selective defaults during the first quarter of 2010.

S&P cut Sbarro Inc.’s corporate credit rating to ‘D’ from ‘CC’ on Feb. 1, 2011. The downgrade was prompted by the Italian fast-food restaurant chain’s decision not to make an interest payment on its $150 million senior secured notes.

“We believe that the payment will not be made within the 30-day grace period,” said Standard & Poor’s credit analyst Mariola Borysiak in a press release issued Feb. 1. “This follows from our view that Sbarro’s liquidity is weak, that its current capital structure is unsustainable, and that the company will seek to restructure its balance sheet.”

In January, Sbarro hired Kirkland & Ellis LLP to advise it with the restructuring of its balance sheet. MidOcean added the Melville, N.Y.-based company, which has more than 1,000 locations in 30 countries, to its portfolio in January 2007.

Separately, Buyouts has kept tabs on the number of LBO-backed companies that filed for bankruptcy protection this year. We counted three, each with a different sponsor. Sun Capital Partners Inc.’s Anchor Blue Inc. entered bankruptcy on Jan. 11. The apparel retailer said it was hurt by competition, the economic downturn and weather conditions in Southern California.

The others also filed for Chapter 11 in January as well. These were Golden Gate Capital’s Appleseed’s Intermediate Holdings LLC, which operates under the Orchard Brands name, and Wind Point Partners’s Summit Business Media Holding. The three bankruptcy filings in 2011 is down from the five we tracked during the first quarter of 2010.