Bain, CD&R Start Cashing Out Weeks After Buyouts in Junk Frenzy

Two months after acquiring bathtub maker American Bath Group, Centerbridge Partners decided it was time for an early payout. Days later, Bain Capital cut itself a check from a distributor of building products it had owned for just five weeks.

On Wednesday, Clayton, Dubilier & Rice got in on the action, seeking to sell $300 million of junk bonds to take a dividend out of White Cap, a construction firm it acquired three months earlier.

Such early dividend payouts are rare in the private equity industry -- and have little to do with an investment charging hard out of the gate. Rather, they’re a product of a surge in demand for high-yield debt that’s pushed borrowing costs for the riskiest debtors to their lowest ever, in a market where almost anything goes.

“It’s a case of fear of missing out,” said Matt Freund, co-chief investment officer at Calamos Investments. “The economic outlook has not dramatically changed, but market yields are lower, investors look ahead to the new year with more optimism and new mandates. It all leads to higher risk tolerances.”

Riskiest Junk Borrowers Pay Least in Years for Debt Spree

The average borrowing cost for debt rated just above default -- the kind typically used to finance leveraged buyouts -- dropped on Jan. 21 to 6.42%, its lowest level since records began, according to Bloomberg Barclays indexes. The average yield on junk bonds, in general, hasn’t topped 4.3% since the beginning of the year, and also touched an all-time low this month.

That has helped fuel a flurry of new deals that have made January the busiest on record for junk-bond sales in the U.S., with almost $50 billion sold, according to data compiled by Bloomberg.

Debt-funded dividends are not new on Wall Street and are typically the hallmark of borrower-friendly credit markets. Creditors usually aren’t fans of early dividend payouts, because they enable buyout firms to reduce their equity investment by loading the company with more debt.

But the efforts this month by Bain, Centerbridge and CD&R to extract those payments so soon after a buyout underscores how comfortable investors have become with high-risk debt so far this year.

PIK Toggles

The three firms are also capitalizing on a boom in home-improvement projects and a migration away from cities during the pandemic.

Both Bain and CD&R used a particularly aggressive type of structure known as a payment-in-kind toggle, which provide their portfolio companies with the option to pay interest with more debt.

The $394 million that Bain and minority investors are expected to pocket from US LBM Holdings Inc. represents over a third of the equity they contributed in December, and will bring the company’s debt load to nearly seven times a measure of earnings. The notes were issued to yield 7.875%.

Remarkably, the deal in part came together after inquiries from debt investors eager to increase exposure to sectors seen as benefiting from the pandemic, according to people with knowledge of the matter.

“Investors have become less emotional about dividend deals,” said John McAuley, head of North American leveraged finance at Citigroup Inc. They can either buy debt of a “company with a solvency issue, or manufacture that excess yield by doing a dividend.”

CD&R is seeking to sell bonds issued by White Cap at a yield of about 8%, according to the people, who asked not the be identified because the transaction is private.

The firm financed the buyout of White Cap from HD Supply Holdings Inc. with a $2.335 billion loan and a $640 million junk bond as part of a deal to merge the company with Construction Supply Group. That bond yielded about 6.5% Thursday, according to Trace.

Ratings Hit

In both cases, the moves came at the expense of their credit standing. Moody’s Investors Service lowered US LBM’s rating to B3 the day of the bond sale, citing Bain’s “extremely aggressive financial strategy.” S&P Global Ratings changed White Cap’s outlook to negative from stable, citing elevated leverage of above seven times earnings.

For its part, Centerbridge issued more of a bond tranche that American Bath first sold late last year and that has since rallied. The additional $175 million of debt priced at a yield of 6.265%, compared to the 7% the company paid on the original bond sold in November.

Representatives for Centerbridge, Bain and CD&R declined to comment.

The lure of cheaper financing is also drawing companies from out-of-favor sectors that previously borrowed at double-digit interest rates. Gannett Co., the largest publisher of newspapers in the U.S., is marketing a $1 billion leveraged loan at a yield of about 8% to help it repay an existing loan from Apollo Global Management Inc.

That debt, which carries an interest rate of 11.5%, was considered at the time a more attractive option than raising funds in the open market.

©2021 Bloomberg L.P.

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