Kravis Shakes Bondholders as LBO Optimism Drives Up Poison Puts

[Joanne98]

Oct. 30 (Bloomberg) -- U.S. bond investors are demanding more protection from takeovers than ever amid concern that the biggest corporate bond market rally in more than a quarter century will spark a wave of credit-damaging leveraged buyouts.

For the first time, more than half of the lowest-rated investment-grade industrial companies that sold bonds this year included a promise to pay investors a premium to face value in a takeover, according to data compiled by Bloomberg. A total of 55 borrowers from Woonsocket, Rhode Island-based drugstore chain CVS Caremark Corp. to Dow Chemical Co. sold $44.2 billion of debt last quarter with so-called poison puts, a record 30 percent of all investment-grade issuers.

The steepest gain in the Standard & Poor’s 500 index since the 1930s, the lowest yields on corporate bonds since 2005 and a doubling in bank lending is raising concern among bondholders that the two-year drought in debt-laden mergers and acquisitions is coming to an end. KKR & Co.’s Henry Kravis and Stephen Schwarzman of Blackstone Group Inc. both said this month they’re poised to start buying again.

Investors are shifting out of “survival mode” and demanding better defenses against LBOs, said Tom Murphy, a money manager at RiverSource Investments LLC in Minneapolis, which oversees $145 billion in assets. “There are some credits I wouldn’t invest in without it.”

Stocks and Bonds

Poison puts allow investors to sell a bond back to the issuer at 101 cents on the dollar in the event of a corporate takeover, merger or restructuring that would result in control shifting hands. The provisions protect bondholders from deals that crush credit ratings and the prices of their securities, while allowing companies to pay lower yields on their debt.

“The beginning signs of a measured economic recovery are noticeable and real,” Kravis said Oct. 20 at a conference in Quebec City, according to prepared remarks. Private-equity firms have been able to win financing commitments for transactions, especially those involving buying assets from large corporations, he said.

“The future now looks substantially brighter for us in the private equity business,” Schwarzman, chief executive officer of Blackstone, told attendees at the Super Return Middle East conference in Dubai on Oct. 14.

Peter McKillop, a spokesman for KKR, and Christine Anderson, a spokeswoman for Blackstone, both of New York, declined to comment.

Damaging Buyouts

The use of poison puts in investment-grade bonds accelerated at the end of 2006, during a two-year, $1.4 trillion takeover binge. About 8 percent of issuers included a form of the provision in the fourth quarter of that year, up from 4.5 percent in the prior three months and less than 2 percent in all of 2005, Bloomberg data show.

About 50 percent of non-financial bonds sold this year with the three lowest levels of investment grade contained a poison put, up from 45 percent in all of 2008, Bloomberg data show. About 85 percent of bonds that included the provision were rated in that BBB category, as ranked by Standard & Poor’s, and 97 percent were from non-financial issuers.

The percentage of corporate borrowers offering bonds with poison puts began to decline early last year after the U.S. economy entered the worst recession since the 1930s. It dropped to 10 percent in the fourth quarter as investors sought only the highest-rated debt. The covenants returned this year as companies agreed to pay higher yields to build their cash hoards and debt markets opened up to lower-rated issuers.

Cost to Bondholders

A lack of protection can cost bondholders. Buyers of $3.5 billion of TXU Corp. bonds sold in November 2004 have lost about $1 billion in value in the past two years, since the Dallas- based power producer was bought by KKR and TPG Inc. for $32 billion.

The bonds, sold with the lowest S&P investment-grade rating of BBB-, were slashed to CCC, or eight steps lower, at the time of the October 2007 buyout. They’re now rated CC. TXU was renamed Energy Future Holdings Corp.

Poison puts have “become the de facto standard for all but the highest-rated companies,” said Brad Fox, chairman of the National Association of Corporate Treasurers and treasurer of Pleasanton, California-based Safeway Inc., the third-largest U.S. supermarket chain. Underwriters “basically say, if you want to get the deal done, it has to have the put,” he said.

continued>>>
http://www.bloomberg.com/apps/news?pid=20601109&sid=a0B7W52MerDs

[westerebus]

1. So the money men want protection.

Do they expect a down turn that would be a great opportunity for the hard cash on the side lines to buy any meat left on the bones of the economy?

Sounds like the sharks smell blood in the water.