Citi has most to lose in court showdown over EMI

October 15, 2010

Citigroup has the most to lose from its showdown over EMI. The U.S. bank will next week have to defend itself in a New York court against allegations that it tricked Terra Firma, the private equity group led by Guy Hands, into buying the troubled music label for 4.2 billion pounds ($6.7 billion) in 2007. The only way Citi can avoid the confrontation is to agree to restructure the 3 billion pounds it lent Terra Firma to finance the deal.

Hands staked his reputation on EMI. He is now betting the last shreds of his credibility that Citi does not want the details of its boom-era dealmaking to be exposed to the public glare less than two years after it was bailed out by U.S. taxpayers.
David Wormsley, Citi’s lead financial adviser on the deal, is accused of encouraging Terra Firma to pay more for EMI by telling Hands that U.S. rival Cerberus Capital Management was still in the race. Citi denies the allegations, arguing that Terra Firma’s board had already authorised the bid before the conversation took place.

Nevertheless, a jury trial is risky for Citi. The focus will be on rival accounts of a series of telephone calls. Emails disclosed in the preliminary court filings revealed Citi bankers celebrating multiple fees they had earned from the deal. The fear is that Hands might have held back some other juicy details. Moreover, if Citi loses, it could face hefty damages.

The bank could avoid those risks by settling the case. Terra Firma is understood to be willing to settle if Citi loosens the covenants on its loan. That would free the private equity firm from having to make regular cash injections into EMI in order to avoid a default. Even then, however, the business would still have too much debt: applying the same multiple as listed rival Warner Music, EMI is probably worth at least a billion pounds less than the current face value of Citi’s loan.

An out of court settlement also has drawbacks. For one, other disgruntled clients may be encouraged to try a similar approach. But even if Citi mounts a successful defence, Terra Firma investors may agree to prop up EMI until 2015, when the loan matures. The longer EMI struggles on, the longer the embarrassment — and the impasse — continues.

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