This Deal Shows How the Junk-Credit Market is Still Irrationally Exuberant

One of the biggest such deals ever, happening now: How investors allow a group of PE firms to extract $3.75 billion from a company after they’d already extracted billions.

Junk-rated Asurion – which is based in Nashville, has 16,000 employees in the US and elsewhere, and sells insurance and extended warranties for smartphones, tablets, consumer electronics, and the like – is borrowing $3.75 billion via two “leveraged loans.” The proceeds along with some “cash on hand,” as Moody’s says, are to be funneled to the PE firms – Madison Dearborn, Berkshire Partners, Providence Equity Partners, and Welsh, Carson, Anderson & Stowe – that acquired the company in a leveraged buyout (LBO) during the LBO boom in 2007.

“One of the largest credits of its kind,” is how LCD, of S&P Global Market Intelligence, described it. These loans are also “covenant-lite”– meaning they offer investors fewer than normal protections.

This money is not used for anything productive, or to acquire another company, or to expand operations, or to increase revenues. It simply extracts cash from the company and in the process loads it up with debt.

These two loans will bring the company’s total term loans to $11.3 billion, according to Moody’s, which rates the company “B1,” four notches into junk (here’s my cheat-sheet on credit rating scales). Moody’s considers the deal “credit negative” due to the increase in debt and the “large payment to shareholders.”

The deal will increase Asurion’s debt-to-EBITDA ratio to 6.5x-7.0x, up from 5x before the deal, Moody’s estimates. EBITDA (earnings before interest, taxes, depreciation, and amortization) is a measure of operating cash flow that excludes interest expenses, but interest expenses are massive for a company with $11.3 billion in junk-rated loans outstanding, so it’s a good thing to exclude it.

Among other “credit challenges,” according to Moody’s, is Asurion’s “practice of borrowing substantial sums from time to time to help fund payments to shareholders.”

These transactions were used to allow the PE firms to cash out, and equity interest shifted to other investors, which include sovereign wealth funds and the Canadian Pension Plan Investment Board. By now, the PE firms’ stake has dropped to “less than 30%,” Moody’s said.

The banks arranging the two leveraged loans are Bank of America Merrill Lynch, Morgan Stanley, Goldman Sachs, Barclays, Credit Suisse, and Deutsche Bank, according to LCD. Commitments are due by noon on Wednesday, June 27.

Leveraged loans – they’re called that because they’re extended to junk-rated and highly leveraged companies, such as Asurion – are too risky for the banks to keep on their books. So banks sell them to loan mutual funds, or slice-and-dice them into structured Collateralized Loan Obligations (CLOs) and sell them to institutional investors. The banks get the fees but slough off the risk to mutual fund investors, pension beneficiaries, and other sitting ducks.

Given the still pandemic chase for yield, anything goes. Leveraged loans and CLOs have turned into a booming market. And issuance has soared. LCD explains:

Dividend deals such as Asurion are seen as opportunistic issuance in the US leveraged loan market, meaning issuers – or their private equity owners – take advantage of investor demand to originate credits, the proceeds of which are returned to the owners. The U.S. leveraged loan market has been red hot of late as investors crowd the floating-rate asset class thanks to ongoing and expected interest rate hikes.

The current price talk indicates a yield to maturity of around 5.5% for the $2.25-billion first-lien loan due November 2024 (rated Ba3); and about 9.5% for the $1.5-billion second-lien loan due August 2025 (rated B3).

Lenders love it: They’re offered a “consent fee” of 50 basis points (half a percentage point) on the $2.25 billion first-lien loan and of 75 basis points on the $1.5 billion second-lien loan.

After the transaction is complete, Asurion will have $11.3 billion in leveraged loans outstanding, not including its senior secured first-lien revolving line of credit of $230 million, according to Moody’s:

  • $2.5 billion senior secured first-lien term loan, due August 2022.
  • $3.2 billion senior secured first-lien term loan, due November 2023.
  • $3.3 billion (includes the $1.5 billion increase of the current transaction) senior secured second-lien term loan due August 2025.
  • $2.25 billion 6.5-year senior secured first-lien term loan.

This is the type of transaction that is typical for PE-firm-owned companies. Only this one is a much larger cash-out than most, and comes on top of Asurion’s prior massive cash-outs. It is this type of transaction that is heavily involved in the brick-and-mortar retail meltdown. Many of the retailers that had been acquired by PE firms during the LBO boom before the Financial Crisis, or in LBOs afterwards, are now filing for bankruptcy and some are being liquidated, such as Toys ‘R’ Us.

This risky strategy is survivable for a flawlessly-run company in a booming industry when an irrationally exuberant junk-credit market will fund anything.

But when credit tightens, or when there’s a hiccup at the company, or when there’s a structural change in the industry – in retail, it was the shift to e-commerce and the arrival of new competitors – or worse, if two or all three happen at the same time, as they often do, these companies that have to be totally focused on cost-cutting to deal with their debts, and that do not have the resources to adjust and move forward, get run over by events. And creditors are left to wail and gnash their teeth.

So yes, the PE firms behind Asurion are smart cashing out at this point in the credit cycle. But it’s the kind of deal that should give the Fed the willies when it looks back at his easy-credit handiwork over the past nine years.

“It feels like we’re about 12 months away, but we could get into extended innings.” Read…  The Smart Money Gets Ready for the Next Credit Event   
 

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  54 comments for “This Deal Shows How the Junk-Credit Market is Still Irrationally Exuberant

  1. RepubAnon
    Jun 22, 2018 at 8:52 pm

    Sounds like a lollypop investment – anyone taking the other side of that deal is a sucker.

    • Night-Train
      Jun 22, 2018 at 10:33 pm

      Lol But true.

    • raxadian
      Jun 23, 2018 at 7:12 am

      All LBOs are basically that hence why they should be illegal.

    • Rates
      Jun 23, 2018 at 12:15 pm

      Probably you or some muppets through a pension fund.

      Private Equity: American Innovation of the Millenium.

      No: The Chinese made us do it. Or it’s Putin. Or insert your favorite villain here.

      Didn’t I say this country deserve to go to hell?

      • govinda
        Jun 25, 2018 at 9:14 pm

        10s of millions jobless, many millions homeless, many more addicted to all manner of drugs and most of the major cities are wrecked by various parasites. How could hell be any worse?

    • Capt Steve
      Jun 27, 2018 at 9:40 pm

      True …but they found several banks and pension funds to take the debt. What happens when the company files for bankruptcy… the pensions plan losses … and the PE firms sit back and laugh!

  2. Kiers
    Jun 22, 2018 at 9:31 pm

    You forgot to mention, they will play CDS on Asurion too. Just another snuff film for the billionaire class that everyone “aspires” to.

    • Maximus Minimus
      Jun 23, 2018 at 5:33 pm

      Prior to 2009, there was hardly a mention of credit rating, the riskiness was measured by CDS rates. Did they bite the dust?

  3. Wendy
    Jun 22, 2018 at 10:08 pm

    “These transactions were used to allow the PE firms to cash out, and equity interest shifted to other investors, which include sovereign wealth funds and the Canadian Pension Plan Investment Board”

    Can you spot the bag holders here, or will they be able to sell their “equity interest” to new suckers?

    The PE firms take the cash, and leave a stinking pile of equity behind.

    PE firms are just helping the company the same way Weinstein helped aspiring actresses, except the PE firms are using a “back door” approach.

  4. nick kelly
    Jun 22, 2018 at 10:26 pm

    As any consumer guide will tell you: extended warranties are almost never worth their cost.
    Few months back I was with someone who bought a shredder on sale at Staples for something like 19.99
    At the checkout the guy says: do you want the extended warranty for 12 dollars?
    No we said. We’d just buy two for another 8 bucks if we were worried.
    That would be a fast replacement…another one in its box, right.

    So this whole BS deal is itself built on a foundation of BS.

    • Night-Train
      Jun 22, 2018 at 10:57 pm

      Agreed. I only purchased an extended warranty on one product and that was on a 1989 Mazda MX-6 GT. And that was because of the turbocharger. I had heard stories of those needing to be replaced and not coming cheap.

      I put nearly 100,000 miles on that car and used the ext. warranty several times for replacement of the front wheel drive parts, which that thing ate. But the turbocharger never had a problem.

      I also let the Midas folks sell me a replacement deal on the muffler when they replaced the original. That worked out pretty well. That car had a pre-muffler and a regular one. And that car ran hot and ate mufflers as well. I know I replaced one twice and the other three times under the ext. warranty.

      But as a general rule on anything else, including vehicles, I say no thanks.

      • nick kelly
        Jun 23, 2018 at 1:26 am

        Agree. The ex warranty is worth considering on cars, especially suspect cars and ALL German cars.
        But consumer stuff under a grand, forget it.

        • Boot
          Jun 23, 2018 at 9:11 am

          Ex Warranty’s are the same as term life insurance…when you see the percentage of policies that actually pay out it is minuscule….Waren Buffet did not get rich off Coca cola…take a look at his insurance holdings…

        • Drater
          Jun 23, 2018 at 10:01 am

          Extended warranties can be purchased from any dealership; not just the one where you purchased the car. 6 years ago I bought a certified used Infiniti in SoCal but purchased the warranty from the dealership in Scottsdale for about 50% of the cost. Also recommend the manufacturer warranty instead of 3rd party ones.

        • Mean Chicken
          Jun 25, 2018 at 2:24 pm

          For a long time around here, Mercedes and rust were synonymous. You could hear them rusting on quiet days or late in the evening when noise was low.

  5. peter
    Jun 22, 2018 at 11:40 pm

    Is it just me or does anyone else wonder why PE firms and all their antics are still legal? If I tried to raise money knowing that I would default and never have to actually pay it, I’d be in jail. Or am I missing something here?

    • NY Geezer
      Jun 23, 2018 at 8:01 am

      The way I see it, those “antics” are FRAUD AND CORRUPTION which is not legal under common law if not under statutory law.

      The companies that engage in these are criminal enterprises that are involved in a conspiracy to steal the money of helpless investors, taxpayers and pensioners. The victims are not foolish investors. They are absolutely unable to prevent the fraudulent transfers by the custodians, trustees, politicians and others who have control of their money.

      Their activities closely resemble the definition of organized crime in the RICO stature: “organized crime in the United States is a highly sophisticated, diversified, and widespread activity that annually drains billions of dollars from America’s economy by unlawful conduct and the illegal use of force, fraud, and corruption.”

      • van_down_by_river
        Jun 23, 2018 at 4:26 pm

        Absolutely correct! Our society appears to have reached a level of corruption where wealthy parasites openly commit fraud under the full protection of the government and the courts. They are now operating, without fear, out in the open with impunity – they are untouchable behind their mountains of money.

    • Anon1970
      Jun 23, 2018 at 8:17 am

      Institutional investors are presumed to know what they are doing. Sometimes they don’t. And the regulators may know even less. Even the very mild consumer financial protection legislation passed during the Obama administration is being watered down by regulation under the Trump administration. The Republican base is getting what it deserves but so is the rest of the country. Of course, the Democrats are no angels either when it comes to protecting the public’s financial future. Anyone who has read about the state of Illinois’ finances knows that they are a financial time bomb waiting to go off. Ditto for New Jersey and probably California.

    • R2D2
      Jun 23, 2018 at 7:21 pm

      Yes, you are missing something; you are a small potato; rules apply to you. Now, if you are a big PE firm, no rules apply to you.

      If you kill someone, you go to jail for life; if they kill someone, they get bonuses. Now, do you see where you erred?

  6. KPL
    Jun 22, 2018 at 11:57 pm

    “But it’s the kind of deal that should give the Fed the willies when it looks back at his easy-credit handiwork over the past nine years.”

    To the contrary, the Fed has done its job of making people take risks. Bernanke can look back and say “job well done!”

    “The banks get the fees but slough off the risk to mutual fund investors, pension beneficiaries, and other sitting ducks.”

    You have to really marvel at the system we have got where the fiduciary duty is only in name.

    Just as the Fed gets away with all its actions (and other CBs too) without having to take responsibility for it so do the mutual fund managers, pension funds, sovereign wealth funds. A wonderful capitalistic system where the “sitting ducks” provide the meat forever.

    • MD
      Jun 23, 2018 at 2:04 pm

      Agreed. The whole point of the system that’s been created is that it’s “devil take the hindmost” and we’re all supposed to fight tooth and claw to ‘get ahead’.

      We’re all being forced by low returns on ‘safe’ investments to become amateur speculators in order to provide for our future economic security – and if we don’t ‘play the markets’ and load up on real estate – well, that’s just our silly fault. Even if we do have to do this whilst trying to also work full-time jobs – against a backdrop of ever-decreasing security and benefits – to pay the bills.

      Ah well – better than that horrible socialism I suppose – much better to be a free-marketeer on antidepressants and in therapy than a horrible commie!

      • David Krenshaw
        Jun 26, 2018 at 5:26 pm

        Well said. A lot of wisdom in your comment.

  7. Vexser
    Jun 23, 2018 at 1:07 am

    The only positive I can see here is that the ratings agency has actually issued a rating with some relationship to reality (unlike CDOs). Perhaps the PE funds didn’t pay off the right people? If the market is properly and timely informed, then let the shysters sell their “wares” to those who should be parted with their money. Nice “cheat sheet” by the way.

    • van_down_by_river
      Jun 23, 2018 at 4:41 pm

      “those who should be parted with their money”

      You mean those who have been given no alternative – Bernanke made cash so cheap that anything that isn’t going to default pays negative real interest rates.

      Either pay the price of an up front default or pay a back door default via Bernanke’s currency devaluation scheme – effing evil.

      • Vexser
        Jun 23, 2018 at 11:13 pm

        CDOs were a complete and “effing” con because the rating agencies deliberately and maliciously lied about them. The market was not informed and thus not operating correctly. If snake oil is correctly labeled as such as in this case, then caveat emptor. Agree about Bernanke completely: why he is not in jail is a big question. However, price takers (or buyers) can only become price makers when they refuse to buy crap. The (undistorted) market then does what it is supposed to do with the pricing. The same happens when “muppets” make themselves wage/debt slaves by hugely bidding up housing stock (all things being equal and no distortive overseas dirty money). The only way to win the game is not to play the game. The title of the article says it all : “irrational exuberance.” If you chase yield at huge and guaranteed risk of the principle (junk), then you deserve what you get (ignoring the EU’s completely delusional policy: they should all be going for US govt paper if they can). All the average Joe can do is to just accept very low rates in an insured account and wait this madness out: either a complete systemic crash or sky high interest rates. All Ponzi schemes come undone eventually: the bigger the swindler the longer it takes.

  8. unit72
    Jun 23, 2018 at 4:25 am

    OK, cellphone insurance isn’t up there in importance with life, auto or medical insurance but it is insurance isn’t it? Shouldn’t a outfit like this be regulated by state insurance commissioners?

    What happens to the poor sap who bought a policy from Asurion and needs to get his Iphone replaced and the company can’t make good on its policy because some PE firm as taken all the cash out of the business?

    • Mel
      Jun 23, 2018 at 9:24 am

      The Market Solution would be to sell the sap some Warranty Insurance to pay off if the Warranty company is no longer around when the product breaks. Maybe AIG can offer some at 12 basis points. It’s been 10 years since The Big Short.

    • Ray Cornwall
      Jun 23, 2018 at 4:34 pm

      I used to work for a competitor, and there is regulation in that market. I can’t speak to Asurion’s situation.

  9. Kk
    Jun 23, 2018 at 5:24 am

    ‘Cheat sheet’ very witty wolf

  10. Kent
    Jun 23, 2018 at 7:08 am

    I may, or may not based on this article, receive a pension from the great State of Florida one day. However this story reminds me of a time around 2008 when an ex-governor was hired by Lehman Brothers to convince the pension fund managers to invest in Lehman’s CLO and CDO products. That ex-governor: Jeb Bush.

    Our current governor, the venerable Rick Scott, was the CEO of Health South, at the time the largest chain of private hospitals in the country. Health South was fined for fraudulently billing Medicare and the elderly for billions of dollars of procedures that never actually happened. Rick of course feigned innocence and Florida voters promptly rushed to elect him governor.

    I can only imagine the sate of our pension fund today. Mr. Scott is now running for Senator where he can do to the rest of the nation what he has done to us. So Florida will have probably the 2 sleaziest Senators in the country: Rick “the thief” Scott and li’l Marco “show me the money” Rubio. I apologize in advance.

    • ZeroBrain
      Jun 23, 2018 at 8:07 am

      Democracy is the theory that the people know what they want, and deserve to get it good and hard. -H. L. Mencken

      • Anon1970
        Jun 23, 2018 at 8:18 am

        Please sir, may I have another.

      • Maximus Minimus
        Jun 23, 2018 at 5:46 pm

        Democracy is a leveraged loan where different tranches are bundled together to be sold … back to the issuer.

    • Night-Train
      Jun 24, 2018 at 12:03 am

      Kent: Thanks. I was having such a nice day until I read your comment.:)

      I almost took a job with the State of Florida’s DNR until I was made aware of Jeb’$ finagling with the pension system. I didn’t want to be a new hire under the revised plan.

      Regards to you

    • chris Hauser
      Jun 25, 2018 at 10:03 pm

      i knew it was going to be trouble when the ring card was bush v. clinton, but had no idea what trouble was coming.

      jeb!

      rick!

      marco!

      repeat as necessary. use other names if you get bored or need distraction.

  11. Anon1970
    Jun 23, 2018 at 8:00 am

    I first read about Asurion while shopping for new headphones recently. Based on the comments of people who purchased consumer electronics and bought an extended warranty issued by Asurion, the company has a bad reputation when it comes to paying claims.

    • Lion
      Jun 23, 2018 at 4:06 pm

      Figure that reputation will carry over to paying loan agreements. Feel bad for those workers whose pension fund will get slammed.

  12. Paulo
    Jun 23, 2018 at 9:24 am

    Here are three quotes that indicate what can happen when a company is acquired, milked, rationalized, and downsized. As a friend of mine remarked awhile ago, a head-office honcho recently commented to him, “If we didn’t have to pay for fuel or pay wages, we would make money”.

    Company in question: Western Forest Products
    Owner: Brookfield Private Equity

    “Brookfield’s private equity business focuses on real assets through owning and operating in the business services, industrial operations and residential development services industries.[18]”

    “During 2014, Brookfield Special Situations Management Limited (“BSSML”), an indirect wholly-owned subsidiary of Brookfield Assets Management Inc. (“BAM”), completed secondary offerings of Western Common Shares on January 31, 2014 and September 10, 2014. ”

    “Further restructuring took place in 2009 and into 2010 to address the continuing weak worldwide lumber markets, resulting in further organizational changes, plant down-time, headcount reductions and the relocation of the Company’s corporate office to Vancouver. In 2011, the Company sold its administrative office building in Duncan, British Columbia, and relocated the functions of that office to Nanaimo, British Columbia. The Company has sold off a number of non-core assets since 2008, with the proceeds bring used to pay down long-term debt. [2]

    On April 30, 2014, a former employee opened fire with a shotgun at a Western Forest Products mill in Nanaimo, British Columbia, killing two employees and wounding two others, one critically. The suspected gunman, 47-year-old Kevin Addison, was arrested and charged with murder and attempted murder.[2][3]”

    • Paulo
      Jun 23, 2018 at 9:28 am

      Reiterate: “The Company has sold off a number of non-core assets since 2008, with the proceeds bring used to pay down long-term debt. ”

      This involved people losing their jobs until 1 day after union seniority no longer applied. The results speak for themselves. Now, the company is full of private contractors all fighting over an opprtunity to stay employed.

  13. Bobby
    Jun 23, 2018 at 9:33 am

    I was looking for an updated bar chart of yearly LBOs, whether if they are increasing. Interesting how 2007 was the peak before the meltdown.

  14. Ambrose Bierce
    Jun 23, 2018 at 12:00 pm

    This is adding systemic risk in order to subsidize consumer or private risk insurance against product failure, though its hard to imagine a bubble in consumer product extended warranties. My late mom bought an LTC policy, and the company went into receivership in 2008, and capped benefits. When she needed it there wasn’t enough for an unregistered private healthcare aid. Who ever gets what they paid out of an insurance policy? I buy into CEA because my house is worth twice what it should be worth, and I can’t afford to rebuild.

  15. MD
    Jun 23, 2018 at 2:06 pm

    To quote the great Homer J after having crayons inserted up his nose:

    “Extended warranty?! How can I lose!?”

  16. van_down_by_river
    Jun 23, 2018 at 4:09 pm

    Gawd! I’m so pissed off after reading this, I almost wish I’d skipped over it and remained blissfully unaware of this latest fraud.

    A useless company, selling warranties to gullible consumers, who buy warranties for cheap commodity electronics they will be replacing in a few years anyway (better they should sell a warranty to protect against obsolescence) now being used as a front company to commit outright fraud in the bond market. How is this legal in my country, how can this stop – our courts and the government seem to serve only money now, we count for nothing.

    Never forget get who bulldozed mountains of cash into Wall Street coffers and made money so cheap that investors and institutions became desperate enough to throw cash into garbage bonds with zero chance of paying off. The person responsible for this mess, the one who’s fingerprints are all over the crime scene: BEN BERNANKE!!!

    • MD
      Jun 24, 2018 at 3:31 am

      The thing is it in’t just legal in your country…FIRE is now the economic basis for your country.

      This behavior IS your country.

      S’what happens when financiers rather than industrialists call the shots.

      The latter build great countries (innovation phase) – the former destroy them (decadence/degeneracy phase).

      Clock’s ticking.

      • Kent
        Jun 24, 2018 at 7:27 am

        Way too late. The Supreme Court in the Citizens United decision ended democracy in the United States.

        • Ambrose Bierce
          Jun 24, 2018 at 12:11 pm

          No they ended it in the decision on the 2000 election although it may have ended earlier on a blue dress in the oval office. Then it may have ended later when the CIA told 42 about Bin Laden’s camp and potus went to the Congress for approval to launch and was denied. Plenty of blame to go around. Papers sitting on 43s desk, watch out for these guys. Let me tell you about a pet goat I know. Then lets move on nothing to see, and hillbilly populists using the electoral college to elect a NY RE speculator with some help from his Russian pals. What’s next? It always gets worse.

  17. Anthony Bevalaqua
    Jun 23, 2018 at 4:55 pm

    I’m surprised PE hasn’t invented 3rd lien debt yet! Suckers could probably earn 12% and be levered 10 times until the Asurion becomes insolvent.

    • Tom Kauser
      Jun 25, 2018 at 8:17 am

      They be called tranches and they are still hot potatoes from last collapse? This collapse is for keeps and the record keeping must remain neat and tidey?

  18. Malthus
    Jun 24, 2018 at 4:10 pm

    https://www.pcmag.com/article2/0,2817,2425755,00.asp

    You are right. The whole company is a scam. And to think my Canadian pension plan is investing my money in this.

    • Tom Kauser
      Jun 25, 2018 at 8:15 am

      So is Sears ? Not laughing yet?

  19. Tom Kauser
    Jun 25, 2018 at 8:19 am

    Your pet goat is the pope Ambrose!

  20. Mean Chicken
    Jun 25, 2018 at 3:04 pm

    Although IMO it should be illegal based on the intent, law doesn’t see it my way (yet).

  21. Paul Whalen
    Jun 26, 2018 at 10:39 am

    I liked it better when the world was round. Before LBO was invented, when management was a fiduciary to the shareholders, and the shareholders were the beneficiaries when inherent economies unlocking value went to owners, not a bunch of investment bankers and senior management. That type of thing used to be illegal, as it properly should remain.

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