Loan Pass-On Problems

Loan market in ‘disarray’ after Harrah’s upset
By Stacy-Marie Ishmael and Henny Sender in New York
Financial Times February 3 2008 22:04

The leveraged loan market begins the week in “disarray” following the collapse of efforts to syndicate $14bn of the debt used to finance the $30bn buy-out of Harrah’s Entertainment, bankers say.

The group of banks backing buyers Apollo Management and Texas Pacific Group are having trouble selling on the leveraged buy-out debt to third parties. With the bulk of the debt remaining on their books, the banks are sitting on a sizeable loss.

The freeze in the debt market means they now face larger potential losses on other big buy-outs, such as BCE and Clear Channel Communications, and will be more desperate to get out of the financing commitments on those deals.

Banks are already saddled with more than $150bn of unsyndicated debt, most of it LBO-related, according to S&P data.

Virtually every loan-backed buy-out deal done in the past few months is trading well below 90 cents on the dollar. With most investors concluding that the bottom is not yet in sight, there is little sense that the current level is a bargain. The prospect of massive losses took its toll on the group of banks arranging the Harrah’s financing.

Credit Suisse, under pressure to get its lending exposures down, sold about $1bn of its share of the debt ahead of the agreed schedule, infuriating the other banks. Credit Suisse informed fellow members of the syndicate of its intention in early January, according to one person familiar with the matter.

“There is no contractual obligation,” this person added. “We cannot concede control over our own capital.”

That may be the pattern in future deals. “The Harrah’s precedent frees other underwriters to deal with situations as they see fit,” noted Standard & Poor’s Weekly Wrap.

“The market is in total disarray,” said the head of debt capital markets at one major Wall Street firm. Another senior banker involved in the deal added: “The last 10 days have been the worst ever. There is a complete buyers’ strike.”

Kingman Penniman, president of KDP Investment Advisors, said: “It’s very hard to see an environment where that overhang of debt is going to be cleared any time soon. But it does look like some of the bigger deals might not get done.”

Ironically, the Federal Reserve’s dramatic 1.25 percentage point cut in interest rates in January contributed to Harrah’s problem, because loans are floating rate and with benchmarks such as Libor dropping, returns to investors fall proportionately.

The Fed rate reduction also meant lower returns on earlier deals to finance the mega buy-outs of the last few months, including the loans on deals such as First Data and Alltel.

The fate of the Harrah’s financing had little to do with the company itself.

Harrah’s has $6bn of equity, making it less highly leveraged than many other buy-outs. That is one reason Goldman Sachs’ mezzanine fund swooped in and bought $1.2bn of Harrah’s bonds.

The head of debt at one private equity firm said: “Technical factors haven’t been fixed and the bad macro outlook has kicked in.

“Even if you are comfortable with the individual credit, why bid when the market is going lower?”