Friday, February 23, 2007

Syntax vs. Meaning or Why Alltel won't be a LBO

Bond holders usually cringe when a company announces its "reviewing its strategic options," as Alltel did on Tuesday. These days that usually means you're talking to private equity, and that means your bonds are about to get killed.

Alltel's CDS spread was 70/73 on 12/28. Their 2016 issue, which I own, was 190/195. The next day a Wall Street Journal article said that Alltel would make a nice LBO. The CDS got as wide as 120ish and the 2016 issue as wide as 240 shortly after the story.

But wait. The Wall Street Journal piece didn't mention anything specific. At least on the surface the article read like a journalist doing the LBO calculation, as opposed to any actual rumors. By mid January Alltel CDS had tightened into the mid 90's, and the cash 2016 bonds were down to +200. By the end of February, the 2016 issue had tightened to 155/165. Other than EOP, Alltel was the largest tightener of all corporate bonds in the Merrill indices.

So when Alltel used the phrase "reviewing strategic options" on their analyst conference call, I admit I cringed a little. Even though I strongly believed a LBO was unlikely, the market is paranoid these days. But much to my surprise, Alltel tightened substantially after the call. The CDS are now in the low 70's, and the cash bonds continue to tighten substantially. The 2016's are now 135/145.

Based on where other large telecoms trade, I think fair value is around +100, so there is still room here. But market movement is telling me the LBO discount that had been baked into this bond price is drifting away.


Anonymous said...

In the past few months, there has been a tendency for change-of-control language in new corporate issuance. In your opinion, where do you think a new issue AT 10yr would trade v. a new 10yr without the language. Additionally, do you have any thought on the higher frequency of change-of-control issuance?

Accrued Interest said...

I think its going to become real common. Particularly among companies like Home Depot or Target which are highly rated but possible buy-out candidates. Home Depot's old 10-year debt (with no covenants) is probably 40 bps wider than their new '13's with covenants. Even if you correct for the maturity difference, that's at least 25bps.

Alltel has non-subordination covenants. That means that they cannot issue new secured bonds without securing existing bond holders in the same manner. This is an important protection in a LBO scenario, since secured debt is common practice in the high-yield market. Still, it doesn't prevent a LBO, it probably just limits bondholders downside.

Anonymous said...

Tom, I searched the AT 16s covenants and couldn't find any non-subord. language. Could you point me to the section in the prospectus to focus on? Thanks for your time.

Accrued Interest said...

Under a section titled "Lien on Assets"

"The Company covenants in the Indenture that, if at any time the Company mortgages, pledges, or otherwise subjects to any lien the whole or any part of a property or asset now owned or hereafter acquired by it, except as hereinafter described, the Company will secure the outstanding Securities, and any other obligations of the Company that may then be outstanding and entitled to the benefit of a covenant similar in effect to this covenant, equally and ratably with the indebtedness or obligations secured by such mortgage, pledge, or lien, for as long as any such indebtedness or obligation is so secured."

I have a word version, but I think its on page 13.