Howard Marks has contempt for his creditors

February 7, 2011
Michael Aneiro:

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Two news articles from Friday afternoon I’m just getting around to now. First up, Michael Aneiro:

Aleris International on Friday sold $500 million of notes to pay a dividend to its owners in a deal that analysts say pushes the envelope for weak bondholder protections, even by the typically looser standards of private-equity-sponsored actions….

Most of the proceeds are earmarked for a dividend payment to its owners, Oaktree Capital Management and affiliates of Apollo Management and Sankaty Advisors…

Covenant analysts at both Moody’s Investors Service and credit research firm Covenant Review said the Aleris deal offers some of the weakest bondholder protections of any deal to come to market recently. In particular, they cite provisions that give Aleris an unusual degree of flexibility to issue additional debt and make future dividend payments…

“[These covenants] give them the ability to have a lot of leverage going forward,” said Matthew Musicaro, an analyst in the corporate finance group at Moody’s. “There’s very little to prevent them from incurring more debt and taking more money out to give to sponsors in the future.”

In addition, Covenant Review described the deal’s restricted-payments covenant–a common clause in bond offerings that limits dividends and other payments to equity holders–as “seriously deficient.” Covenant Review said a combination of loopholes, carve-outs and other exceptions would allow Aleris to move an unlimited amount of its assets into entities that are not subject to the restrictive covenants.

Now see Azam Ahmed, on Oaktree’s Howard Marks:

While his firm jumped into the aftermath of the credit crisis ready to scoop up deals, he’s currently taking a more moderate approach. He thinks today’s environment requires “prudence.”

“I’m not ringing the bell,” he told the audience. But “I think it’s time to act cautiously.”…. “Today, if all you have is capital and nerve, you’re going to get in trouble.”

The smart money, here, is selling into fixed-income investors with capital and nerve, in a bet that those buyers are going to get in trouble. If the markets really want to throw half a billion dollars at Aleris’s cov-lite issue, Howard Marks is more than happy to take them up on their offer and trouser the proceeds. But he’s laughing at them while doing so.

The re-emergence of cov-lite notes, like a phoenix from the ashes, is a depressing sign that we really have learned nothing from the financial crisis. I know that memories are short, in financial markets. But this short? It’s depressing.


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