Investors with yield on their minds have been jumping into the new $390 million deal for PAETEC, despite the fact the company is a competitive local exchange carrier and Standard & Poor's has assigned a 5 recovery rating to the deal. Launched last Tuesday, it was already oversubscribed by Friday, with market players pointing to price as the reason. The first lien is priced at LIBOR plus 3 3/4% and the second lien is priced at LIBOR plus 7 3/4% with call protection of 103, 102, 101. "It's extremely rich pricing, that is the only thing that makes this attractive," one investor said. One banker said a price cut could not be ruled out.
The credit will refinance $100 million of existing debt and buy back $262 million of preferred shares from PAETEC's private equity investors, Madison Dearborn Partners and theBlackstone Group.Merrill Lynch and Deutsche Bank lead the financing, which consists of a $25 million revolver, a $240 million term loan and a $125 million second lien. CIT and CIBC World Markets are also involved in the financing.
Pricing is high because of the industry. Not long ago CLECs were their own kind of four letter word. "It's a tough sector, that's why it has a whopper coupon," one portfolio manager said. "It has a recovery rating of 5, even with a B1 rating. It's one of those where you have to get paid for it." He said that since the sponsors are cashing out, it presents an additional risk. "Any time you see equity sponsors taking their money out, it's buyer beware," he said. The company had previously tried to do an initial public offering last July, but failed (LMW, 7/1). Calls to Madison Dearborn and the Blackstone Group were not returned.
Set in the current market, the deal's pricing is tough to ignore. "Everything is pricing at all time lows, L plus 200 [basis points] is high," one banker explained. "On a yield basis, [investors] might be thinking, 'if I can even grab L plus 350 or 400 paper on a single B profile rating, I'm going to hop on that.'" He said that portfolio managers might be willing to take a little extra risk to balance out the 150, 175 basis point paper that has been coming to market recently. "375 is a great yield play on a single B credit," he said.
Keith Wilson, executive v.p. and cfo, said pricing is pretty attractive compared to pricing on other emerging telecom companies. The $185 million term loan for Cavalier Telephone Corp. was priced at LIBOR plus 5% at syndication back in February and an $85 million term loan for Nuvox priced at LIBOR plus 5% at syndication in April.
The buyback of the shares is being done to "meet shareholder needs at a time where the markets are receptive to PAETEC, where they haven't been in the past couple of years," Wilson said. He explained that CLECS had not been a favorable industry in the past, but now some have shown they "have proven business models that have a real longevity to them."
The choice of banks came down to the long-standing relationships both Merrill and Deutsche Bank have with the company. "They provided us with very reasonable terms and structure to get the deal done," Wilson said.
Moody's Investors Service assigned a B1 rating to the revolver and first lien and a B3 to the second lien. The ratings agency says a B2 corporate family rating reflects the company's position as a CLEC, moderate size and an unsettled regulatory environment. S&P assigned a B rating to the revolver and first lien and a CCC+ to the second lien. It says the Fairport, N.Y.-based company's B corporate rating was due to PAETEC's lack of competitive advantages, small size and limited market share. The 5 recovery rating indicates a 0-25% recovery in the event of default or bankruptcy.
