Monday, 24 September 2018

Triple C credits get cool reception

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Companies with some of the riskiest credit profiles rushed to start marketing deals last week, testing appetite among investors who have recently shown a willingness to take on more risk in their search for yield.

Wine and beer retailer BevMo, hospitals operator Surgery Partners and industrial services company Brand Energy & Infrastructure are all seeking to sell junk bonds with near-bottom Triple C ratings.

“There have been hairier deals coming through,” said Tom Stolberg, a portfolio manager at Loomis Sayles.

“We are not dying for the bottom quartile of the credit spectrum right now. But if you are an underwriter or an issuer and think you can get a piece of financing that works for you, you are going to try.”

For now, investors seem to be showing some discipline by pushing back on the yields initially on offer.

BevMo, for example, was forced to offer investors a juicy yield of 12% on its US$190m five-year non-call two that will refinance debt maturing next year - wider than the 10%-11% range originally targeted.

The company marketed the deal with a leverage ratio of 6.8 times, a level many find hard to digest in the troubled retail sector.

And that is after giving it credit for US$5.6m of adjustments to Ebitda related to new store openings, organisational changes and promotions, without which leverage would be around eight times, according to IFR calculations based on financials included in the bond’s preliminary prospectus.*

“It is just too much leverage,” a second portfolio manager told IFR. “Trends for alcohol consumption are decent … but the guys they are going up against are bigger and better capitalised.”

A US$335m eight-year trade from Surgery Partners is also expected to be packed with a lot of leverage. The transaction, which is being marketed alongside US$1.365bn of loans, will help finance the acquisition of rival National Surgical Healthcare in conjunction with Bain Capital’s takeover of HIG Capital’s existing stake in Surgery Partners.

The company, which one broker said is looking to sell the bond at a yield in the mid-6%s, is expected to have leverage of around seven times after the acquisition is completed, according to Moody’s.

“Free cashflow will be used primarily for acquisitions and not debt repayment,” the ratings agency said in a note earlier this month, echoing a concern voiced by investors.

The deal for Brand Energy & Infrastructure has a larger US$700m size and lower leverage of 5.7 times on an adjusted basis, but the company was still forced to push the yield on the deal to 8.5% from the high 7%-8% range that had circulated earlier in the week.

Brand, which is owned by private equity firm Clayton, Dubilier & Rice, will use proceeds to finance its acquisition of scaffolding company Safway from Odyssey Investment Partners.

Jefferies was the sole bookrunner on BevMo deal and is expected to lead the bond for Surgery Partners. Barclays is lead Brand’s bond sale.



Triple C rated bonds have accounted for 9.1% of all junk-rated paper issued in the US market so far this year, the highest level since 2013 and more than double the 4.1% share recorded in 2015, according to data from JP Morgan.

“Investors should proceed with caution,” said Brian Kloss, head of high-yield at Brandywine Global. “Increasing [Triple C] issuance is generally a late-stage phenomenon as investors reach for yield at the end of the economic cycle.”

There are signs, however, that investors have been wary of too much risk.

Spreads over Treasuries of Double Bs - the better rated junk credits - are now at their tightest levels since the financial crisis, according to Bank of America Merrill Lynch data.

But credits on the other end of the junk spectrum, rated Triple C or below, are still hovering some 200bp above their post-crisis low reached in 2014.

* This sentence was corrected to reflect the actual figure for adjustments to Ebitda (millions, not billions).

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