Apax Partners and Cinven have won the auction to buy the business from VNU, the Dutch media group, with an offer price of Eu2.075bn.
The financing package ? estimated to be Eu1.45bn-Eu1.5bn ? will have an unusually high debt-to-Ebitda ratio of about 7.4 to 7.5.
Bank of America, Credit Suisse First Boston, Goldman Sachs and JP Morgan are providing the financing for the purchase, with CSFB, Goldman and JP Morgan as bookrunners.
Terms in the leveraged loan market have been getting steadily more aggressive this year as private equity LBO sponsors have taken advantage of the apparently insatiable demand from banks, hedge funds and institutional investors for these high yielding assets.
But the World Directories deal is already causing controversy. Some banks among the top 10 bookrunners of leveraged loans ? including Citigroup ? have walked away from the deal because they could not get comfortable with the amount of leverage the sponsors wanted.
?This is not typical,? said one head of syndications at a bank in London. ?This deal could be a step too far and really will depend on the support of the losing bidders.?
Stirring up the controversy still further, Fitch Ratings took the surprising step yesterday (Thursday) of issuing a report entitled ?VNU World Directories LBO, A Step Too Far?'
Departing from rating agencies' traditionally reactive approach of merely rating transactions, Fitch offered its opinion that the package ?is the latest example of an excessively leveraged transaction being offered in the European market?.
Fitch also pointed to ?the difficulties which Seat Pagine Gialle, Europe's largest directory buy-out, is encountering in improving profitability in the core printed directories business?.
The agency said Seat and World Directories ?share some of the obstacles that these very mature businesses face in trying to combine top-line growth, while simultaneously pushing for profit margin increases as required by overstretched balance sheet structures?.
Estimating the structure
No one in the market besides the arranging banks has seen the structure of the transaction. ?It is very early days and the deal will be judged on its merits when people know its structure,? said a syndications banker.
However, so many institutions took part in the auction that bankers are confident they can estimate the debt ratios from the price Apax and Cinven are paying.
Bankers believe that if non-cash pay, or paid-in-kind (PIK) debt is included in the calculation, total leverage is about 7.7 to 8 times Ebitda. If PIK debt is excluded ? which is typical when calculating leverage ratios ? the total debt is 7.4 to 7.5 times Ebitda.
?We were backing a couple of sponsors and we were pitching 6.75 times cash pay and 7.25 times total ? and we just couldn't get there,? said one leveraged loan banker.
At one stage five groups of private equity firms were bidding for World Directories, and some loans bankers argued that many of the top 10 banks in the market did stay in the race to win a mandate.
Directories businesses are at present considered the best candidates for LBOs, since they generate strong cashflows.
The most highly geared LBO loans have been for yellow pages companies, including the buy-out of Seat Pagine Gialle, which had total debt of 6.4 times Ebitda.
World Directories, however, is not thought to be as strong a credit as Seat or Yellow Brick Road (YBR), both of which have enjoyed highly successful syndications over the past year.
One of the concerns about VNU's directories business is that its Dutch Gouden Gids directory has a successful competitor in YBR.
However, bankers involved in the deal were at pains to point out that World Directories ? like YBR ? has interests elsewhere, with operations in Belgium, Portugal, Ireland, South Africa and Puerto Rico.
?The business can take the leverage,? said a banker. ?But you need to do more work on this to understand the business ? it is not simple.?
EuroWeek understands that the leading banks are receiving many reverse enquiries from banks looking for sub-underwriting roles.
?Apax has experience in the sector and owned [directories businesses] Thomson and Yell,? said another leveraged finance banker. ?There's a lot more to this than the bald numbers.?
Thorough due diligence
However, many in the LBO market are sceptical that such high leverage is justified and Fitch is warning investors to do thorough due diligence on such deals.
?We always say that investors should look at the fundamentals of a business and not the headline ratio,? said Stefano Podesta, an analyst in leveraged finance at Fitch in London and one of the authors of the report.
Fitch said it was hard for investors to reach an informed view on what are the key drivers of operating performance for directories companies, when there was a ?lack of extensive data covering issues such as advertisers' churn rates ... bad debt provisions and net customer additions for each business segment? (online, printed and voice directories).
Podesta said: ?Seat is generating cash, but the growth in Ebitda has not happened yet, since the printed directories side of the company is having difficulty reaching the growth projections. But investors will be presented with an update of the business plan in November.?
The World Directories deal will be a critical test for the whole LBO market, however, not just directory companies.
?It is worrying, but you have to look at the pros and cons of walking away,? said a banker at an institution that joins as a sub-underwriter in many LBOs. ?Do you make a stand or do you anger the mandated lead arrangers and then not get shown any paper on future deals? When the market does turn and you are proven right, will you still have a job??
But many argue that banks are structuring more aggressive deals because the European market is maturing.
?At the end of the day if the market is orienting more toward a US style then you can put in more leverage,? said another sub-underwriter of deals in Europe. ?There are some deals that will go too far, but it is not a systemic problem.?
