Healthsouth Corp. put its financial advisor Credit Suisse First Boston to the task of raising new money to pay down convertibles on which the company had incurred a principal default in April, and the company ended up with a deal tailored to its needs. "To their credit, CSFB said this is a wild and crazy idea but we are willing to explore it and make it work," explained George Varughese, a managing director with Alvarez & Marsal, the restructuring firm working with HealthSouth.
The task required overcoming some glaring obstacles: HealthSouth had not been able to produce audited financial statements and is still under investigation by the Securities and Exchange Commission. The company also wanted to complete the new financing on an unsecured and bought basis.
From a business value perspective of looking to create stability and a desire to be current with obligations, HealthSouth and Alvarez & Marsal placed an importance on reconciling the principal default on the convertibles. "As long as we were not going to pay it, the company was living under the danger of a payment default," said Varughese. Alvarez & Marsal had already worked to stabilize HealthSouth's operations and looked to align the company's capital structure, which comprised about $3.4 billion of debt including the roughly $340 million convertible issue. In addition to the principal default, HealthSouth had defaulted on its interest payments and was in covenant violation on many of its debt pieces. "We wanted to methodically attack the three of those issues," Varughese said. In August the company repaid the interest it owed its creditors, including the back interest owed.
Initially, HealthSouth had looked to appeal to the holders of the convertibles to complete an exchange. But after considering potential terms of the exchange offer, that option appeared too costly. "Any exchange offer would have been pretty expensive in terms of interest rate and equity dilution," Varughese noted. In its place, the new deal is structured as a seven-year, $355 million senior subordinated term loan. The loan carries a fixed interest rate of 103/8% per annum and is callable after year three with a premium. Lenders who bought into the loan were also given warrants to purchase 10 million shares of common stock in HealthSouth at an exercise price of $6.50.
After the deal was completed, the loan was quoted in the secondary market around the 105-106 context. But despite the high premium, Varughese defended the structure noting that the company was able to receive what it was looking for. "With a company with that risk, it is an unbelievable rate," said Varughese. Moreover, soon after the deal was completed, HealthSouth also presented a business update to its stakeholders that calmed fears. "It's always hard to look at these things in hindsight," Varughese noted. He added that it is hard to unbundle the effect of the information sharing session, the strong high-yield market and the removal of risk associated with the defaulted convertibles on the price of the debt.