Getting to "yes" on BCE
BCE Takeover Part 41
Yesterday I promised to offer the deal group a few simple themes to help them “split the difference” that separates a closed BCE LBO deal from the failed version. I hate the macho theatre of negotiating, and our firm is – as a rule – in the “get to yes” business. What’s the position? Figure out what you can do and go from there. “Ratcheting” is for people who didn’t play an organized sport in highschool, or who’ve never been pheasant hunting. Getting to no rarely leads to a closed financing, and we’d rather close a deal if given the chance.
So, in the spirit of “getting to yes”, and dispensing with the false theatrics that often go with negotiating bank debt agreements….:
1. Stop the common share dividends
Since Louis St. Laurent was Prime Minister of Canada, back in 1949, BCE has been paying a quarterly dividend. And despite the fact that we shareholders are “owed” our $0.365 dividend from June 14, 2008, and Sept. 14, 2008 (prospectively in the latter case), the BCE board is already on top of this idea, having decided to “defer” the decision about paying the June divi. That $294 million remains in the company’s coffers for the betterment of OTPPB and their prospective LBO lenders. You have to ask yourself why the BCE Board paid out the last common share dividend in April — didn’t they see the writing on the wall then?
As far as I’m concerned, retaining this divi and the next is an easy decision — despite the fact that it essentially reduces the takeover price to ~$42.00 should the deal close after September 14th (which would have been the record date for the 3rd quarter dividend payment). We shareholders would still prefer that choice to a one-way ticket back to $28, Mr. Currie.
2. LBO backers agree to higher loan pricing
The cost of borrowing has gone up. This is a fact, even if the lead banks agreed to Golden Era pricing last June. 3 month LIBOR is 4.96%. A year ago it was 4.15%. Improve the interest rates.
3. Exit the real estate
It seemed so easy a year ago.
Some 24 year old genius financial modeller at Goldman Sachs developed an excel toggle in the BCE LBO model that saw, say, $2 billion of BCE real estate hit the market rather than $1.4 billion. Immediately, the LBO IRR went up. Maybe it was $3B vs. $2B. Regardless, easier modelled than done.
A year later, the commercial real estate market has seized up, and even the best minds in the big ticket real estate business are having a hard time selling billion dollar property packages right now. The shares of CB Richard Ellis, Duke Realty and Forest City are all down between 40% and 50% over the past year. Since they earn their keep from commissions and/or ownership of real estate, these firms are the canary in the coal mine of the North American commercial real estate industry.
That’s not to say that some pockets of capital aren’t still buying choice properties, but none of the parcels in the BCE portfolio will compare to the GM Building in New York City, for example. A deal for a sale/leaseback on a portion of BCE’s real estate portfolio is doable, but the values in the original June 2007 LBO models will be extremely stale.
Take what you can get over the next 18-24 months, LBOers, and hand it over to the lending syndicate. With $18.4 billion of property, plant and equipment on the balance sheet as at March 31, 2008, there are lots of assets to vend in an effort to de-lever the deal over the next 24 months. All of which serves to grow the equity value of the deal, even if you find yourself leasing/renting what BCE currently owns.
EBITDA will go down, but with cap rates at 13-15x right now, the high grade fully-leased real estate market is still trading higher than the EV/EBITDA multiple of the BCE LBO. This should create equity value for OTPPB et al, and the reduction in interest expense won’t hurt FCF, either.
4. Face up to sensible financial covenants
It is not lost on a firm like ours that some lenders went crazy over 2006 and 2007, and dispensed with the longstanding benefit of financial covenants in their loan packages. One of our competitors was always going on about them “having no financial covenants”; welcome to 2008. Those lenders, if they still have jobs, are now regretting their “no covenant” mantra.
Luckily for the lending syndicate, folks like OTPPB and Providence are experienced deal types and fully aware that covenants are not the enemy in a deal of this nature. Declining revenue from the landline business, more competiton in wireless, and no growth plans outside its home market are all reasons for sobriety at BCE deal central. But, the stability of the domestic business and $700 million of free cash flow in 2009 is a place to start. As is $2.5 billion of cash on hand as of March 31, 2008.
There’s even spare change for a sinking fund.
6. Spinout the Aliant stake next year
The jumbo equity offering of 2009 will undoubtedly be the sale of BCE’s 44% stake in Bell Aliant Income Fund (BA-UN:TSX). With a current market cap. of $3.8 billion, BCE’s new owners could hope to clear $1.75 billion. It’ll take an installment receipt transaction, as was used by John Labatt Ltd. among others, but the cash should show up before the end of 2009. That’s all that the lenders need to hear. And with more than $60 million of commission at stake, the i-bankers will be rioting to lead the deal.
But, as Ontario Hydro proved, OTPPB doesn’t need to pay the standard 4% equity offering commission for a jumbo deal. 2.4% is the new 4% commish when you are talking numbers this big…and the investment banking industry in suffering from a recession, which makes it harder to hold the line of fees. Unless, of course, the lead banks are negotiating these follow-on fees into the current deal.
Naturally, the Canadian Bank Act makes tied selling illegal, so we know THAT isn’t happening. And no “wink, wink, nudge, nudge”, either.
This is but a representative list of some of the tools available to the two sides to get to yes, but it serves to make the point that the LBO backers can give the banks what they need to be happy — without impairing the health of BCE going forward.
If the deal doesn’t happen, it’s not because the two sides couldn’t reach a deal. It’ll be because they didn’t.
(disclosure – I own BCE)
I just wanted to say that this is not only the best post you’ve ever written on the Wellington blog, I think it is probably the best (and most thoughtful/useful/reasoned) post I have EVER seen on a financial blog.
Well done — you have provided a service to investors and (if they are smart enough to read it) the participants in the BCE takeover.
I’ll go one further on step three – BCE/Teachers’/Providence should either spin-off or sell their data centres in a specialized trust. Something similar to Digital Reality Trust (DLR-NYSE), in that they manage properties that are technology-specific.
I agree with Duncan. Mark an amazing post.
Any guesses as to how long until Dead Tree steals it?
Thanks for the kind comments.
Duncan – simple ideas are often the best.
Alpha – good idea.
Matt – we don’t mind the DTM lifting stuff so long as there’s a Hat Tip to go along with it.
While on the topic of Hat Tips…
Why not OTPPB and/or banks start buying shares in the open market right now (quietly)? It has a 12.2% discount as of today.
If they can get 10% of the shares in the market, they will save additional 1.22% on top of the two dividends.