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Kloeckner Pentaplast (KP) lenders have instructed agent bank Unicredit Group to review the accounting mechanics of a senior debt buyback last October. Lenders queried the Germany-based plastic packaging company’s ability to book paper profits from the discounted purchase to boost its EBITDA line, three sources familiar with the situation told Debtwire.
The German group’s 1Q results included EUR 46.7m of EBITDA adjustments from debt buybacks, this newswire previously reported. The agent bank has since instructed Latham & Watkins to liaise with KP’s lawyers following a move by a number of lenders to dispute the accounting treatment, said all three sources.
KP’s auditors disclosed details on the buyback mechanism and accounting mechanics to the company’s lawyers. Lenders will subsequently be updated via the agent, said the first source. “It is up to lenders to decide whether they want to investigate the matter further,” the source added.
All wrapped up
The buyback boasts similarities with Mauser’s latest debt repurchase, but KP takes the procedure one step further, said the second source. In Mauser’s case there are many elements of a standard equity cure: the equity injection counts towards EBITDA and net debt is reduced. With KP there is an additional benefit, debt bought at a discount which counts as a gain to EBITDA. “If you bought an asset at EUR 10 with an original face value of EUR 100, a 90% gain [from the purchase price] can be added into EBITDA,” he said.
“The one off exceptional is booked on day one on a consolidated basis - it is treated as operating income. The EBITDA benefits drop out one year after the purchase, but this could be counted a recurring revenue stream off the back of additional purchases,” said the third source familiar. A number of senior loan documents facilitate debt repurchases by the company – it was never envisaged discounts could be so large. “The documentation is so loose on a number of deals, it is not a case of finding a gap to squeeze through – you can walk through most of them,” he concluded.
The accountancy treatment is likely permitted under international accounting rules, according to all three sources and two lawyers consulted by this newswire. The structure of any company/SPV established to buy and hold debt securities could be a more contentious issue for discussion. “There is an issue whether the vehicle is a qualified buyer under the documentation, but in theory the company can waive this clause themselves,” said one lawyer. If the SPV is solely established to complete the buyback, there could be tax implications. Speculation also surrounds SPVs marking the repurchased debt to market, or booking the gain at par value, the lawyer concluded.
Is this a 2007 vintage?
LBOs from 2007 deals were structured with considerable leeway, commented the first source familiar. It’s time to take a look at the documentation again, he added. The accounting treatment is not entirely clear, lenders have been requesting lawyers review this issue hypothetically. “It could be a scary development for the whole loan market.”
“One of the issues is whether the buyer of the debt is a permitted buyer under the docs. This goes back all the way to the TDC buyback last year,” said a second lawyer. “My view is that SPV vehicles do not qualify, but I hold a minority view,” he added.
KP had to put an entity in place within the business group to buy the debt, the third source familiar explained. The transaction must constitute an “arms’ length transfer” to be permitted under documentation. “The other route is for management to say it is in the best interest of the company. Mauser chose the first option,” he concluded. Not everyone is unhappy with this development. “For some CLO and mezzanine funds, an EBITDA boost isn’t a bad thing. It means there are no triggers and they can keep receiving their cash flows,” the same source concluded. This also buys the company time to come up with an effective restructuring solution, he concluded.
“It’s a fantastic trick, but one for the accountants to review in further detail,” said the first lawyer. As long as the company has enough cash to service its debt, many lenders may not have a problem with the transaction mechanics, he concluded.
Blackstone acquired Kloeckner Pentaplast in May 2007 for EUR 1.3bn from Cinven and JPMorgan Partners at a multiple of 8x pro-forma EBITDA. The financing carried a single leverage covenant. Leverage at the time of the transaction was 4.1x through the first lien, 5.2x through the second lien and 6.3x total debt/September 2007 EBITDA. KP’s debt financing included a EUR 700m 8.5-year term loan B paying 250bps, a EUR 187.5m 9.5-year second-lien piece paying 400bps and a EUR 187.5m 10-year mezzanine facility. In addition, there was a EUR 65m revolving credit facility and a EUR 110m acquisition/capex line, both paying 200bps with a seven-year tenor.
According to one market participant the term loans are currently indicated at 49-52.
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