"Lite" loans may sideline lenders in U.S. downturn
NEW YORK (Reuters) - While a U.S. recession would be bad news for a company burdened by debt after its leveraged buyout, a downturn would be worse for those that loaned the money.
That's because many LBOs, struck when markets were sloshing with liquidity, provide few protections for lenders like hedge funds and banks.
"A lot of bankers and financial advisors are probably having to sit back and watch in a frustrated way as companies deteriorate, but not so rapidly that the companies breach whatever minimal covenants there are," said Patrick Daniello, JPMorgan (JPM.N) managing director, special credits.
At the same time, underwriters of LBO loans are having an increasingly difficult time selling the debt.
The buyout wave that peaked last year was fueled in part by "covenant lite" loans, which carry less protection through control mechanisms or default triggers that measure a company's liquidity. This could leave lenders with their hands tied if cash flow dwindles at newly private companies.
"Deals that were structured in recent years had loose-to-nonexistent covenant packages," said Brian Trust, a partner at law firm Mayer Brown LLP who works on bankruptcies and restructurings. "In a transaction with light triggers, the lender initially bears more risk."
According to Reuters Loan Pricing Corp, more than $300 billion of LBO loans have been issued since the beginning of 2006 -- more than the prior 10 years combined.
GUN-SHY LENDERS
Now lenders are balking at the kind of deals they embraced during the buyout boom. One example is more than $2 billion in loans being offered this month to back the LBO of computer retailer CDW Corp by Madison Dearborn Partners and Providence Equity Partners, according to RLPC.
There is concern about that loan's sole financial covenant and over whether CDW can adequately service a debt load of about eight times cash flow, according to investors who spoke to RLPC on the condition of anonymity.
CDW did not return a call about the loan, which is being offered at a discount price of 96 cents on the dollar, according to RLPC. Market sources say the discount will have to be increased in order to sell the loan in this market.
It's too soon to determine the exact level of interest in the CDW loan, which may otherwise sit with Lehman Brothers LEH.N and other underwriters. But as secondary prices of loans that financed LBOs of companies such as Alltel Corp and TXU Corp weaken across the board, the task of selling new debt is becoming increasingly difficult, according to RLPC.
Lehman also did not return a call about the CDW loan.
BUSY YEAR FOR RESTRUCTURING
One issue with LBO loans is a company's total debt, which averaged more than six times cash flow in 2007, up from just above four times in 2003, according to RLPC. And for LBO loans issued in 2007, more than $40 billion were covenant lite, from under $7 billion in 2006. Continued...
