Transcript www.lacba.org

Financing Transactions in the Current
Business and Economic Environment
February 24, 2009
Steven B. Stokdyk
Latham & Watkins LLP
Henry Schwake
Citigroup
Table of Contents
1. Introduction
2. Bond Market Considerations
3. Bank Loan Considerations
4. Equity Market Considerations
5. Market Observations
Appendix
2
1. Introduction
The Meltdown
 Institutional buyers have been on strike during the meltdown,
forcing arrangers to become very risk averse and putting a
premium on capital rather than new business
 If arrangers cannot sell the paper they originate without incurring
significant losses, the model is broken and the rules of the game
that worked for years no longer apply
 The credit market meltdown has led to a near collapse of the
leveraged buyout market
4
Today’s Environment
 Since leverage has contracted, the market dynamics have moved
in favor of strategic players
 Syndicated loans are especially difficult to come by, and creativity
is needed to raise the senior debt
 Due to concern of bank counterparty risk, agents are having a
difficult time finding a bank to serve as LC Issuer or Swingline
Lender
 Lenders can dictate terms
5
How Banks Got Here
The use of bank facilities grew dramatically through 2007 with longer terms and lower prices, but banks’
increasing funding costs are making these loans uneconomical.
Outstanding Facilities, Total – By Ratings Category
364-Day Issuance Returns in 2008
’02 - ’07 CAGR
Highly Leveraged
Leveraged
Investment Grade
$12
100.0%
8%
% of Investment Grade Market
$14
19
11
$ (Trillions)
$10
$8
$6
$4
364-Day
90.0%
3-Year
80.0%
5-Year
70.0%
60.0%
50.0%
40.0%
30.0%
20.0%
10.0%
0.0%
$2
1990 1992 1994 1996 1998 2000 2002 2004 2006 2Q07 4Q07 2Q08 4Q08
*1Q08 – 4Q08 includes 364-Day bridge facilities of 1%, 5%, 33%, and 40% respectively.
Source: LPC.
$0
'95 '96 '97 '98 '99 '00 '01 '02 '03 '04 '05 '06 '07 '08
Banks’ Funding Costs Make Funded Loans Uneconomical
1000
900
Financial Index
Drawn cost pricing jumps
200.0
Industrial Index
700
600
500
400
300
200
BBB
140.0
120.0
100.0
80.0
60.0
40.0
100
20.0
0
6
A
160.0
Drawn Cost (L + bps)
0.0
Oct-07
Source: Citi Yieldbook.
Feb-08
Jun-08
Sep-08
Jan-09
19
91
19
92
19
93
19
95
19
96
19
97
19
99
20
00
20
01
20
03
20
04
20
06
20
07
20
08
Spread to Treasury (bps)
800
Jul-07
AA
180.0
Source: LPC (weekly).
Changing Attitudes Toward Liquidity
Pre-July 2007
July 2007 –
Dec 2008
Now
Environment
Capital
Markets
► Ready access to capital
► Historically tight credit spreads
► Reasonable treasury rates
► Reduced access to capital
– Numerous markets closed
► Very wide credit spreads
► Very low treasury rates
► Windows of access open
– Primarily better rated companies
– Risk repriced across board
► Spreads stabilize, but wide
► Treasury rates low but likely to rise
Liquidity
Strategy
Approach
“Back of the Envelope”
“Directional will do”
“Piggy Bank”
“What can I really access now?”
“Sharpen the Pencils”
“What is the ‘right’ liquidity amount?”
Assessment
of
Liquidity
High reliance on cash flows and ready
access to capital markets
Cash + Available Facilities
Reassessment of the building blocks of
liquidity
Cost of
Getting
it “Wrong”
Too much – low direct cost
Too much – no one fired
Too much – may be expensive
Too little – easy access if needed
Too little – potential distress
Too little – still risky
Tactics
Reduce reliance on CP and banks
Access market for term debt or equity
when open
7
2. Bond Market Considerations
’09 IG Issuance Volumes Rebound
Monthly Issuance Volume Surges in Jan ‘09
141
$140
118
$120
25
58
$60
High Yield Corporates
$40
BBB/BBB- Corporates
A-/BBB+ Corporates
20
$20
$0
Amount Issued ($ billions)
Jan-09
$100
88
$80
$60
53
51
Single A Corporates*
5
Weekly Issuance Volume ($ billions)
Amount Issued ($ bn)
$160
Increased Market Access for Issuers
49
15
10
$40
28
18
$20
9
8
27
5
21
18
16
13
9
8
27
23
Seasonal Holiday
Lull
10
3
1
0
Oct
Nov
3
$0
0
Jan
Feb
Mar
Apr
May
Jun
Jul
HY Bonds + Lev Loans
9
Aug
Sep
IG Bonds
Dec
12/5
1/1
12/12 12/19 12/26
1/2
1/9
1/16
1/23
1/30
2/6
2/13
Chart depicts week-ending IG and HY non-financial bond Issuance; *Denotes A Rated or better issuers;
Source: Bloomberg
’09 IG Bond Market Has Rallied
Credit and Equity Markets Decouple…
DJIA
280
IG CDX Index

Year-to-date, IG credit spreads (as measured by
9000
270
8800
260
the CDX IG 11 Index) have been range-bound
250
despite a ≈15% decline in the Dow Jones Industrial
8600
240
8400
230
8200
220
8000
210
Spread (bp)
DJIA (points)
9200
Average and marked increase in volatility (as
measured by the VIX)

The relative outperformance of the corporate bond
7800
200
market reflects a view that credit spreads may have
7600
190
reached “oversold” levels along with the impact of
Range Bound Credit Spreads
7400
20-Nov
4-Dec
19-Dec
3-Jan
18-Jan
180
17-Feb
2-Feb
4.0
spread (bp)
AA Rated
Spreads
3.0
10
18-Nov
5-Dec
22-Dec
8-Jan
25-Jan
issuers have tightened from their all-time wides
11-Feb

210
yield (%)
The result on coupon rates has been dramatic, as
evident from the flurry of new issues
260

18-Nov
5-Dec
22-Dec
8-Jan
25-Jan
11-Feb
In line with our strategists’ view that credit spreads
had overreacted in 2H’08, we have seen first steps
towards normalization of the IG bond markets in
7
Jan-‘09
6
5
4
1-Nov
Treasuries have stayed historically low (still in their
bottom 1st percentiles*), while spreads for corporate
310
160
1-Nov
8
AA Rated
Coupons

2.5
2.0
1-Nov
360
+
…While Coupons Fall for IG Issuers
3.5
yield (%)
10-year
Treasuries
strong market technicals
Source: Citi. *Uses weekly data over the last 20-years
18-Nov
5-Dec
22-Dec
8-Jan
25-Jan
11-Feb
Leveraged Finance Market Update
A sharp and severe squeeze on liquidity has pushed spreads out to historically wide levels, exacerbating the
problem by forcing some investors into further selling.
Historical New Issue Volume ($ in billions)
2008 New Issue Volume ($ in billions)
$574
$19
$543
165
$331
$251
$293
$302
158
109
2003
$250
362
2004
2005
2006
2007
1H
06
2008
Leveraged Loans
2H
06
1
1H
07
2H
07
1H
08
$8
3
5
12
8
6
5
2
1
2H
08
2
$8
6
8
6
$3
1
2
$1
3
1
Jan
Feb
Mar
Apr
High Yield
May
Jun
Jul
Leveraged Loans
Aug
Sep
Oct
Nov
High Yield
Source: Citi, S&P/LCD.
High Yield Secondary Spreads
2,100
1,900
1,700
Leveraged Loan Secondary Spreads
B Index
10-Yr. Avg.: 604 bps
Current: 1609 bps
B Loan Index
10-Yr. Avg.: 600 bps
Current: 3164 bps
3,200
BB Index
10-Yr. Avg.: 403 bps
Current: 1104` bps
1,500
1,300
1,100
900
700
2,800
2,400
BB Loan Index
10-Yr. Avg.: 382 bps
Current: 1792 bps
Spread (bps)
Spread (bps)
$3
$11
$9
3
$63 $34
130
7
33
30 27
Source: Citi, S&P/LCD.
2,000
BBB Index
10-Yr. Avg.: 208 bps
Current: 717 bps
1,600
1,200
800
500
300
100
400
0
98
99
00
01
02
Citi BBB Index
Citi HY B Index
Citi HY BB Avg.
11
10
$9
167 195
$97
40
57
190
173
12
$173
278 43
409
$12
1
121
98
83
112
142
$16
$399
181
03
04
05
06
Citi HY BB Index
Citi BBB Avg.
Citi HY B Avg.
07
08
98
99
00
01
02
BB Loans
B Loans
03
04
05
06
07
BB Loans Avg.
B Loans Avg.
08
Dec
Leveraged Finance has Rebounded Strongly in 2009
Market Rally Ongoing ($ in millions)
Recent New Issuance ($ in millions)
December’s rally has continued strongly into 2009
We are clearly in a window of opportunity, but one of uncertain duration
Week
Ended
HY Deals
(#)
Issuance
Amount
12/5
12/12
12/19
12/ 26
1/ 2
1/ 9
1/16
1/ 23
1/ 30
2/ 6
2/13
0
2
0
0
0
1
2
3
3
2
5
$0
$690
$0
$0
$0
$844
$1,558
$1,830
$1,625
$796
$2,281
81
Price (%)
76
71
66
61
56
12/1
12/8
12/15
12/22
Citi HY BB Index
12/29
1/5
Citi HY B Index
1/12
1/19
1/26
2/2
2/9
S&P LSTA Leveraged Loan 100 Index
Source: Citi Proprietary Database, S&P.
High Yield Weekly Mutual Fund Flows ($ in millions)
Eleven straight weeks of positive inflows are supporting a technical rally
$988
$1,000
$726
$800
Issue
Date
Face
Amount
Tenor
Issue
Ratings
Yield at
Issuance
Yield at
Feb. 17
El Paso
Dec. 9
$500
5 yrs
Ba3/BB-
15.250%
9.674%
Cablevision
Jan. 8
$844
5.25 yrs
B1/BB
11.375%
8.747%
MetroPCS
Jan. 14
$550
5.75 yrs
B3/B
11.816%
9.926%
Fresenius
Jan. 15
$500
6.5 yrs
Ba1/BB
10.500%
8.308%
Fresenius
Jan. 15
€275
6.5 yrs
Ba1/BB
10.250%
8.939%
Nielsen Finance
Jan. 21
$330
5 yrs
Caa1 / B-
14.500%
14.212%
Petrohawk Energy
Jan. 22
$600
5.5 yrs
B3 / B
12.750%
10.743%
Crown Castle
Jan. 22
$900
6 yrs
B1 / B
11.250%
9.392%
Inergy LP/Finance
Jan. 28
$225
6 yrs
B1 / B+
11.000%
9.045%
Chesapeake Energy
Jan. 28
$1,000
6 yrs
Ba3 / BB
10.625%
10.033%
Intelsat Subsidiary
Holding Company
Jan. 29
$400
6 yrs
B3 / BB-
11.620%
10.377%
El Paso Corp.
Feb. 4
$500
7 yrs
Ba3 / BB-
9.125%
8.685%
Landry's Restaurants,
Inc.
Feb. 4
$296
2.5 yrs
B3 / B
20.346%
21.545%
Cablevision
Feb. 9
$526
10 yrs
B1/BB
9.375%
9.186%
Denbury Resources
Feb. 10
$420
7 yrs
B1 / BB
11.250%
10.859%
Chesapeake Energy
Feb. 11
$425
6 yrs
Ba3 / BB
10.000%
10.199%
HCA
Feb.11
$310
8 yrs
B2 / BB-
10.500%
10.248%
Forest Oil
Feb.11
$600
5 yrs
B1 / BB-
9.750%
9.655%
$725
$691
$535
$600
$534
Current In-Market High Yield Transactions ($ in millions)
$352
$400
$185
$200
Expect.
Pricing
Date
$218
$127
Precision Drilling
12/10 12/17 12/24 12/30
Source: AMG Data Services.
12
Tenor
Issue
Ratings
$86
$0
12/3
Face
Amount
1/6
1/13
1/21
1/28
2/4
2/11
Source: Citi Syndicate.
Feb. 18
$250
6.5 yrs
Ba2 / BB+
Price Talk
15.516%
Comments
Full roadshow
to repay
bridge debt
3. Bank Loan Considerations
2008 Syndicated Loan Market Summary
IG Loan Volume Plummets
300.0
250.0
Amount Issued ($billion)
200.0
150.0
IG
Down
51%
100.0
50.0
0.0
1Q01
4Q01
Source: Thomson Reuters.
14
3Q02
2Q03
1Q04
4Q04
3Q05
2Q06
1Q07
4Q07
4Q08
3Q08
 Overall Loan volume declined 38% to $130B in
4Q’08 relative to 3Q’08
 Total Investment Grade volume in 2008 fell by
51% to $318B from 2007 levels
 Multi-year deals represented less than 2% of
4Q:08 issuance
 Bridge loans have become an increasingly large
component of overall lending, accounting for
40% of issuance in 4Q’08 versus 33% in 3Q’08
 Drawn spreads continue to trend upward and
spread premiums, duration fees, coupon stepups and funding fees were prevalent for eventdriven deals
Current Bank Loan Market Overview
Recent Market Trends
 We expect deal execution to remain challenging in 2009 from a capacity and tenor standpoint
 Lenders are focused on commitment sizes relative to relationship returns and portfolio considerations; increasing a
commitment is significantly more challenging than rolling an existing commitment
 CDS-based pricing, especially for CP backstop facilities, has gained market acceptance and is a positive deal enhancement
 Borrowers seeking amendments for covenant relief are being required by lenders to pay fees and re-price deals to obtain
requisite consents
Capital and Capacity
 Commitment renewals are
difficult, even in 364-Day
facilities, as lenders focus on
capital allocation, right-sizing
commitments & relationship
returns
 Overall reduction in bank
capacity for A-2/P-2 & low IG
borrowers due to higher
probability of funding & related
capital usage
15
Pricing
Execution
 Recent pricing levels for eventdriven deals have had market
acceptance and are causing
upward pressure on core
revolver pricing
 Bank consolidations have taken
capacity out of the market and
increased the challenges
associated with maintaining or
increasing deal sizes
 The market is focused on
moving floors/caps for CDS
priced deals significantly higher
than those of earlier transactions
 Multi-year tenor is a challenge;
5-years is essentially not
available, 3-years is more
achievable
 Borrowers need to remain
flexible during syndication as
bank requirements may dictate
changes to deal terms and/or
structure
2009 Bank Market Outlook: Pricing Trends
Market Based Pricing and Event Driven Facilities Setting the Tone
 Capital constraints and higher funding costs continue to push fees and spreads higher on 364-Day renewals
 Higher fees and pricing on recent Bridge/Event Driven facilities have gained market acceptance and are expected to cause
upward pricing pressure on core revolver pricing
 CDS-based pricing continues to add deal enhancement, particularly for CP backstop facilities. As CDS levels and funding
costs rise, there is an increase focus amongst lenders to push caps and floors in line with higher levels
Event Driven Pricing and CDS Levels Driving Pricing Up…
Verizon
Wireless
(A/A2)
325
Pepco
(BBB-/Baa3)
300
700
DCP Mainstream
(BBB+/Baa2)
275
CenterPoint
(BBB+/Baa2)
250
600
225
Alcoa
(BBB+/Baa1)
Dr. Pepper
(BBB-/Baa3)
400
175
150
YUM!
(BBB+/Baa1)
75
Hospira
(BBB+/Baa3)
Broadridge
(BBB-/Baa2)
50
25
16
Discover
(BBB/Baa2)
HP
(A/A2)
Transocean
(BBB+/Baa2)
Eaton
(A/A2)
C re dit C ris is
B e gins
B e a r S t e a rns
D is rupt io n
Le hm a n
D is rupt io n
Acquisition Deal
Source: Loan Pricing Corp. and Citigroup
364-Day
Multi-Yr
May-08
Apr-08
Mar-08
Feb-08
Jan-08
Dec-07
Nov-07
Oct-07
Sep-07
Aug-07
Jul-07
Jun-07
May-07
Apr-07
Mar-07
0
Jan-07
Cargill
(A/A2)
NiSource
(BBB-)
Cummins
(BBB/Baa3)
Limited Brands
(BBB-/Baa3)
Source: Loan Pricing Corp.
Constellation
(BBB/Baa2)
MetLife
(A/A2)
Novartis
(AA-/Aa2)
Wal-Mart
(AA/Aa2)
0
Intuit
(BBB-/Baa2)
TransCanada
(NR/A3)
Feb-07
100
Verizon Wireless TL
(A/NR)
CME
(AA/Aa3)
WW Grainger
(AA+/NR)
Schering-Plough
(A-/Baa1)
Teck Com inco
(BBB/Baa2)
Dow
(A-/A3)
Tim eWarner Cable
(BBB/Baa2)
100
200
Tyco
(BBB/Baa1)
Tyco
(BBB/NR)
Staples
(BBB+/Baa1)
Enterprise
Products
(BBB+/Baa1)
New ell Rubberm aid
(BBB+/Baa2)
Barr
(BBB-/Ba1)
Int'l Paper
(BBB/Baa3)
125
300
Altria
(BBB+/Baa1)
Jul-08
Drawn Cost (bps)
200
Jun-08
500
Western Union
(A-/A3)
Cleveland-Cliffs
(BBB-/Baa3)
Nov-08
MBP Spread as of 1/5/09
Oct-08
CDS/CDX caps
Sep-08
Prior Deal Draw n Spread
Aug-08
800
4. Equity Market Considerations
2009 Equity & Convertible New Issue Trends
Equity Financing Alternatives
Straight Common Sale
 Equity issuance has slowed given
market volatility
 Bulk of issuance has come from
financials
 New issue discounts have widened
 Citi re-opened the IPO market in
January 2009
Convertible
 Citi re-opened the new issue market in
January 2009 with $450M convertible debt
for Newmont Mining
 Significant demand – $4B (8x subscription)
– from both fundamental and technical
investors
 Market expected to stay open, but sizing
and terms will be issuer and situation
specific
Structured Solutions
 Preferred + Warrants offer returns
desired by investors in difficult markets,
 Private structured alternatives (e.g.
Range Forward Sale) will offer certainty
in uncertain environment by securing a
minimum stock issue price while
providing upside participation
Execution Trends
Continuous Offering Programs
"Over-the-Wall" Execution
 Tactically similar to a reverse share
repurchase – minimal sale discount
to market price
 Engage select investors prior to public deal
launch to gauge interest and validate
structure and terms
 Issuer has full control of timing,
sizing, and price threshold of sales
 Public tranche can then be executed on an
accelerated basis (1-day)
 Sizing dependent on liquidity and
appetite for market risk
18
Private Execution
 Privately-negotiated offerings with equity
strategic investors / sponsors
 Terms typically reflect strategic nature of
investment
 Financial sponsors may seek board seat /
other form of control despite minority
ownership
Follow-On Discounts Remain Large
While issuers have selectively accessed the follow-on market, discounts remain wide and transaction sizes
relatively small. Recent aftermarket performance, however, is showing some signs of improvement.
Offering Discounts Have Remained Volatile...
...Reducing Issuance Size
Mean Marketed Follow-Ons File-to-Offer Discounts vs. Nasdaq
Average Days Trading
56x
Jan 08
Mar-08
May-08
Jul-08
Sep-08
Nov-08
54x
Jan-09
File-to-Offer Discount (%)
90%
(3%)
80%
(5%)
70%
(8%)
(8%)
(8%)
(9%)
(10%)
(12%)
60%
(11%)
(12%)
(12%)
50%
(13%) (13%) (11%)
Nasdaq Price Performance (%)
100%
33x
29x
24x
16x
Q3 2007
Jan-08
17x
19x
Mar-08
20x
16x
May-08
Jul-08
14x
Sep-08
12x
12x
Nov-08
12x
11x
11x
Jan-09
Source: Dealogic and Factset.
Source: Dealogic and Bloomberg.
...And Issuance Volume
Aftermarket Performance Showing Signs of Improvement
Follow-On Issuance by Type of Issuer (# of Deals)
Recent Marketed Follow-On Offerings
# of Follow-Ons
Offer
Date
8
8
8
7
2
2
12
Jan
15
Feb
6
14
Mar
31
3
25
19
Apr
15
May
Jun
Jul
Corporates
Source: Dealogic.
19
1
22
1
6
3
7
7
2
6
10
Oct
Nov
Dec
Jan
13
Aug
Sep
Financials
0
4
Feb
02/05/09
01/29/09
01/28/09
01/28/09
01/07/09
12/31/08
12/10/08
12/09/08
12/02/08
11/18/08
11/14/08
11/13/08
Issuer
Proceeds
($mm)
% of
Market Cap
Float
Days
Trading
% Change
Relative
File/Offer Offer/Current Offer/Current
Pan American Silver Corp
Whiting Petroleum Corp
Century Aluminum Co
New mont Mining Corp
Progress Energy Inc
SCANA Corp
Unitil Corp
American Public Education Inc
Haw aiian Electric Industries Inc
Central Vermont Public Service Corp
Solera Holdings Inc
Wynn Resorts Ltd
$90
232
110
1,110
469
102
40
143
115
23
90
348
6.2%
15.7
48.9
6.5
4.5
2.4
34.0
20.9
5.2
10.0
5.2
7.1
6.9%
16.6
72.2
6.8
4.6
2.6
36.0
22.5
5.9
11.5
6.5
14.1
3.1x
5.7
14.2
3.2
6.4
2.6
235.8
17.8
8.4
14.4
6.8
3.0
(10.0%)
(19.5)
(38.8)
(11.3)
(6.2)
0.2
(25.0)
(11.1)
(11.1)
(12.7)
(16.3)
(2.8)
3.2%
9.4
(3.3)
12.2
7.1
(0.8)
1.5
11.1
(2.3)
32.1
23.3
(31.6)
0.5%
6.6
(2.7)
12.9
11.3
3.1
4.9
13.3
(4.7)
30.9
23.8
(26.9)
Mean
Median
$239
113
13.9%
6.8
17.2%
9.2
26.8x
6.6
(13.7%)
(11.2)
5.2%
5.2
6.1%
5.8
Source: Dealogic and Factset, excludes deals < $30.0 mm, Financials, MLPs and REITs.
2009: Key Equity Market Themes
Valuation Argument Hurt By Expected Revisions
Balance Sheet Will Continue to Be Differentiator
S&P 500 Trailing Price-to-Earnings Multiple
2008 S&P 100 (Ex-Financials) Performance vs. Leverage
1990 to Date
2008 To Date
70x
28x
Unlevered
Less Than 1.5x
(33%)
(33%)
1.5x to 3x
Greater Than 3x
25x
55x
22x
40x
Median = 22x
19x
c
25x
10x
1990
16x
1994
1998
2002
2006
13x
Jan-08
Apr-08
Jul-08
Oct-08
(42%)
Jan-09
(58%)
Healthcare Re-Emerging As Defensive Play
Expected Trends and Themes
Healthcare Performance Since November Bottom
 Quick rebound in 1H'09 unlikely given economic fundamentals
remain precarious with no "quick fixes" in sight
140%
 Valuation is being questioned by investors given earnings
uncertainty
130%
 Risk aversion continues across all financial markets and
corporate financing costs will remain elevated
120%
110%
100%
11/21/08
 Focus on liquidity and balance sheet strength as differentiator
 Capital returns policies will likely be revisited and recalibrated
12/1/08
12/11/08
S&P 500
S&P Pharma
Acute Care
12/21/08
12/31/08
1/10/09
1/20/09
1/30/09
Amex Biotech Index
S&P Healthcare Equipment
Source: FactSet and Bloomberg. Acute Care Facilities includes CYH, UHS, THC, LPNT, HMA and MDTH.
20
 Liability management will be an area of focus
 Once a bottom is formed, the market is expected to rebound
quickly
2009 Convertible Market Dynamics
Supply / Demand Returns To Balance
Convertible Issuance & Redemptions ($bn)
$120
$80
 The supply / demand relationship returned to a balance in 2008
$95
$69
$62
$40
$41
$0
($40)
($24)
($48)
($59)
($40)
($43)
($49)
($62)
($63)
($80)
2005
 Net supply of new convertible issuance over convert redemptions,
reached a peak of $40B in 2007, absorbed by new money flowing into
the asset class
2006
2007
2008
Issuance
2009
Redemption
2010
2011
2012
Net Supply
Redemptions include conversions and liability management transactions (if available).
Convertible Secondary Market Stabilized
HFRX Convertible Arbitrage Index (Aug ’08 to Date)
– Lower issuance and increased Issuer repurchase activity in 2H’08
contributed to absorb traditional convert hedge funds net selling
activity
– New cross-asset class buyers also surfaced in the secondary
market
 The market has turned to net buying in 2009, as evidenced by the
exceptionally strong demand for Newmont Mining’s new issue
 After the collapse in the hedge fund convertible arbitrage strategy in
2008, the convertible secondary market has stabilized, supported by
new buyers of the asset-class
1100
– Equity (fundamental outright) investors attracted to converts with
equity-sensitivity (i.e. low conversion premium), strong downside
900
700
protection and sufficient yield pick-up vs. underlying common stock
500
300
Aug-08 Sep-08 Oct-08
– Other non-traditional convert buyers also active in the secondary
Nov-08 Dec-08
Jan-09
market
21
5. Market Observations
What Is Working in the New Environment?
 Financings for strategics with a real business and benefits to be
derived from the transaction (of course, it helps if the strategic
buyer has a strong balance sheet to begin with), and tack-ons
to pre-existing leveraged deals that have proven successful
 Lower leverage – current deals often can’t have more than 2.53 times senior leverage, and must have pricing in the 500 to
800 bps range (inclusive of flex) for the senior debt portion
 Keep the story simple – the more noise in the credit, the more
likely there will be problems with the rating agencies and in
syndication. Borrowers should fight the urge to reach for
unnecessary flexibility that was available at the height of the
leverage boom—and encourage their counsel to also exercise
restraint
23
Middle Market Deals
 Smaller, middle market deals have been more popular: the $100$500M deal range is the only one experiencing positive growth,
with alternative lenders willing to step in (unitranche lenders,
hedge funds and mezzanine investors)
 However, even middle market deals have slowed to a trickle and
the cost is rising
 Windows open from time to time when particular industries cycle
into favor
24
What Companies Should Consider in This Market
 Carrying less leverage heading into a downturn
– Protect earnings and reduce financial risk
– Prepares companies to issue debt as soon as markets are open
 Establishing the ability to secure liquidity is a bullish signal and is
vital in fragile markets
 Things are happening quickly
– Loss of liquidity
– Access to market
 Issuers are selling equity in order to secure liquidity as well as
raise permanent capital
25
Selected Business Terms
 Price flex and term flex are moving towards a “full flex” model
with almost unlimited pricing and term flexibility
 75% of leveraged loans in 2008 contain a LIBOR floor, and the
average LIBOR floor is moving up from
 Many loans have original issue discounts of 3-4 percentage
points
 Call protection has become a common feature, either in some
variant of the NC1/102/101 structure or a total “non-call” structure
where the borrower is required to pay a “make whole premium”
for prepayments
 The average total leverage ratio for leveraged loans in 2008 as of
the end of September has fallen to 4.3x
26
Asset-Based Lending
 Banks are leery of committing capital to large cash flow loans in
the current, unsettled syndication market. Asset-Based Lending
is more palatable
 ABL typically does not feature OID
 The Commercial Finance Association reported that ABL saw a
16.2% increase in new credit commitments during Q2’08, 17.1%
in Q3’08 (75% of reporting ABL lenders saw an increase in total
credit commitments)
27
Mezzanine Financing
 Mezzanine debt is more expensive than senior debt because the
subordinated lender must be compensated for the increased risk
in making the loan
 Interest rates on mezzanine debt typically range from 11-15%
(recently increasing), but investors expect a higher total return in
the range of 17-25% due to the usual equity participation feature
of mezzanine financings
 Mezzanine financing has taken-off during the credit crunch – the
first half of 2008 saw $24B in mezzanine funds raised, up from
$2B in 1H’07
 Mezzanine financing is typically easier to close than second lien
facilities, as the number of lenders involved is usually between 1
and 3, as opposed to upwards of 10 to 15 for second lien facilities
28
Loan Documentation Issues
 The credit crunch has resulted in substantive changes in loan
documentation
– No more “covenant-lite” facilities
– No more PIK toggles
– No business MAC conditions (no Material Adverse Change in the
business of the acquirer and target) are now being reinserted as
an independent condition, and is coming back into the market
– LIBOR floors in senior debt, and more recently no distinction
between LIBOR and Base Rate
29
Loan Documentation Issues (cont.)
– Efforts by bidders to negotiate terms and documents as far in
advance as possible to make the documentation condition a nonissue (putting more pressure on busted deal costs for arrangers)
– Significantly greater price flex (approaching full flex)
– Significantly greater structure and terms flex (i.e. adding call
protections, reallocating amounts among traunches, etc.)
(approaching full flex)
– Increasing the required lender vote for certain actions, such as
for adding a new tranche or releasing collateral or guarantees.
– Imposing tighter restrictions on a borrower’s ability to “yank-abank”
– Imposing minimum EBITDA requirements
– Reduced willingness on the part of arrangers to make available
bridge facilities (and an increase in the price of those bridge
facilities that are made available)
30
Amendments
 While the market for amendments is in flux, it is generally getting more
expensive to obtain covenant relief or other material changes. The
following guideposts are evident from a sampling of recent amendments
and the literature
– Upfront fees for covenant changes are now commonly 75 to 100 bps,
with fees topping 100 bps for major changes
– Spreads are repricing to 600 to 800 bps, with some amendments
requiring significantly higher spreads
– LIBOR floors are now common, with 3.50% being a common floor
– The dislocation in LIBOR is causing a re-examination of that pricing
mechanism, and the justification for the differential between LIBOR and
Base Rate
– Excess cash sweeps are being adjusted to 100%, with some
opportunity for stepdowns
 Of course, demands for new equity or warrants will be present in
distressed situations
31
Defaulting Lender Provisions
 What do they do?
– Allow LC Issuer and Swingline Lender to resign if a lender fails
to fund.
– Allow other lenders to remove the administrative agent if that
lender defaults.
 Goals:
– Protect the LC Issuer and Swingline Lender if a syndicate
member has defaulted on its obligation to fund under the facility
or has filed for bankruptcy protection (or whose parent company
has filed).
– Clarify fees and other amounts due to a defaulting lender.
– Clarify reallocations of commitments.
32
Revolver Draws
 Borrowers draw down revolvers and park the cash on their
balance sheets, incurring the negative carry, but increasing
liquidity.
 Typical conditions to revolver draw are notice, a bring down of
reps and warranties, and no default or event of default
 Considerations
– Investment grade deals – frequently MAC rep is only made at
closing and not brought down at the revolver draw. This term
was driven by rating agency pressure to ensure liquidity in a
downturn for investment grade companies
– What happens when the company knows it is going to default on
its financial maintenance covenants that quarter, and draws
down its revolver based on the last quarter’s numbers?
– Anti-hording provision may come back, designed to prevent the
company from building up a war chest for bankruptcy or
workouts with borrowed funds
33
Pro Rata and Buy Back Provisions
 A borrower’s ability to buy back its term loans below par depends in part
on two sections of the credit agreement aimed at ensuring ratable
treatment of all lenders
– The “Pro Rata Payments” provision requires a borrower to make all payments for
distribution to lenders on a pro rata basis
– the “Ratable Sharing” or “Sharing of Payments” section requires any lender that receives
a payment in excess of its ratable portion to purchase participations from the rest of the
lenders so that everyone gets back to his pro rata share
 For a borrower to be able to buy back its loans from only some lenders, a
borrower usually has to amend one or both of the pro rata provisions of
the credit agreement. This necessitates either a Required Lender vote
(i.e., 51%) or a vote by each affected lender (i.e., 100%), with these
thresholds varying by agreement
 Keep in mind that intercreditor agreements may impose additional voting
requirements. Even if a credit agreement allows a given section to be
amended with a 51% vote, the intercreditor agreement may still say that
any changes to that section have to be approved by a majority of second
lien or other lenders
34
The Big Picture – Choices for Restructuring Debt
Redeem/Defease
Repurchase
Cash Tender
Open Market Debt Repurchase
Exchange Offers
Other Strategies
Pre-packaged Plans
Pre-negotiated Plans
Combination of Alternatives
35
General Principles of Covenant Review
 Each covenant in an indenture and credit agreement is its own
world
– Just because the transaction may be allowed under one
covenant does not mean it will be allowed under any other
covenant
– If a transaction is prohibited by any covenant, it is not permitted
under the indenture and credit agreement
 In a multi-step transaction, each step must be analyzed under
each covenant
 It may be helpful to view the transaction as if cash were flowing in
order to break the transaction down to its component parts
36
Appendix
Contact Information
Tel: +1.213.891.7421
E-mail: [email protected]
Education

JD, University of California, Los Angeles, 1991
Editor, UCLA Law Review, Order of the Coif

BA, Stanford University, 1988
with distinction
Bar Qualifications

Mr. Stokdyk is admitted to practice in California.
Partner,
Corporate Department,
Los Angeles
Areas of Expertise

Steven B. Stokdyk is a partner in the Corporate Department in the Los Angeles office of Latham & Watkins LLP where he serves as local chair of
the firm’s company representation practice group. Mr. Stokdyk has extensive corporate, finance and acquisition experience representing
companies, principal investors and financial advisors in a variety of industries, including technology, financial institutions, healthcare and REITs.
His experience includes initial public offerings, high yield, convertible and secured debt offerings, hostile and negotiated mergers, recapitalizations
and private equity and debt investments. He also regularly advises public and private clients on corporate governance and structure, securities law
compliance and strategic transactions.

Mr. Stokdyk is on the Executive Committee of the Business Law Section of the State Bar of California and was the Co-Chair of the Corporations
Committee of the State Bar of California for 2005-2006. He also currently serves on the Executive Committee of the Business and Corporations
Sections of the Los Angeles County Bar Association and the Board of Governors of the Institute for Corporate Counsel. He was named a “Rising
Star” for 2004, 2005, 2006 and 2007 by Southern California Super Lawyer Magazine. Prior to joining Latham & Watkins in 2005, Mr. Stokdyk
was a partner at Sullivan & Cromwell LLP in Los Angeles.
38
Contact Information
Tel: +1.213.833.2340
E-mail: [email protected]
Education

MBA, Anderson School at the University of California, Los Angeles

BSE, Finance, Wharton School at the University of Pennsylvania
Background

39
Mr. Schwake is a Managing Director in Citi’s Global Bank and focuses on the Healthcare and Consumer Industries. Mr. Schwake is based in the
firm’s Los Angeles Office. In addition to his role as a senior banker on clients, Mr. Schwake also leads an initiative to develop corporate finance
content and applicable solutions for Healthcare clients in partnership with Citi’s other bankers in the sector. Mr. Schwake has a broad range of
capital markets and strategic advisory transaction experience for companies including Allergan, Amgen, Beckman Coulter, Invitrogen, Baxter,
Hospira, Medtronic, Covidien, Genentech, Gilead, Tenet Healthcare, WellPoint Health Networks, Clorox, Mattel and Avery Dennison.