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Like many casualties of the recent LBO craze, UK car servicing chain Kwik Fit is a pretty good company with a pretty bad balance sheet.

Private equity sponsor PAI Partners took a bold step to right that wrong last week when it offered to cut the portfolio company’s debt by GBP 56m in exchange for covenant flexibility from its lenders. The French investment firm also intends to use future asset sale proceeds to further delever the business.

Despite the much-needed debt reduction initiative, the relief agent bank Barclays requested from loan holders points toward a bumpy ride ahead. Kwik-Fit asked investors to lift covenant headroom by 15% from 4Q10 through 4Q12 and by 17.5% thereafter, capping its permissible leverage at a vertiginous 8x.

PAI injected GBP 20m into the company in 4Q09 to keep the company covenant compliant. As part of the loan amendment proposed last week, the sponsor offered to use those funds and an extra GBP 4m commitment to prepay senior debt, said a source close to the situation and a source familiar with the matter

The senior debt would be prepaid on a pro-rata basis, but the loan documentation gives the company some flexibility to select whether to target the EUR or GBP tranches of its debt, the source close said.

Kwik Fit generates the majority of its revenues in sterling, which has depreciated against the euro over the past 12 months. Group debt rose by GBP 96m to GBP 822m as at the end of FY08 as a result of sterling’s 24% depreciation versus the euro.

The company will also cancel and contribute GBP 28.6m of second lien debt, which was previously repurchased by PAI funds using PAI equity, the sources went on to say.

Kwik Fit cleared its 2009 covenant tests with 14%-15% headroom thanks to the GBP 20m equity cure, implying leverage of 6x against a 6.88x leverage cap. So far this year, the business has been outperforming its annual budget thanks to weather-related traffic, delivering TTM EBITDA through March that was 16% above annual plan, the sources noted.

While the recent amendment request reflects expectations of volatile performance, the debt paydown helped bring some lenders on side. “It is a reasonable proposal, especially if there is more debt reduction to come [from asset sale proceeds],” the source familiar said.

Piling on the debt

PAI bought Kwik Fit in August 2005 with leveraged loans only to return to market in 2007 at the peak of the credit glut to fund a dividend payment to itself.

Following a flex on the dividend recapitalization, Kwik Fit’s sterling and euro-denominated debt comprised a GBP 518m-equivalent term loan B paying 225bps maturing 2013, a GBP 50m revolving credit facility and a GBP 40m capex tranche - both paying 200bps and maturing in 2012. The debt structure also included a GBP 140m-equivalent second-lien piece paying L+ 475bps and maturing 2015.

The disclosure of the buyback helped lift that capital structure in secondary trading. Kwik Fit’s sterling denominated TLB is indicated at 92/94 while the euro-denominated TLB is at 93/95, both around two and a half points up compared to Thursday (8 April). The second lien debt is bid at 65 today, having ticked up 5 points on Friday to reach 78/80.

In addition to the repurchase offer, Kwik Fit offered lenders a 100bps approval fee for the amendment and a 175bps margin increase on their debt. The deal includes an additional 100bps PIK kicker to the interest rate if the company does not secure a binding agreement to sell Kwik Fit Financial Services (KFFS) by January 2011, the two sources said.

The company would sell KFFS on an “arms length” basis, meaning that the transaction would be leverage neutral or deleveraging, noted the sources. Kwik Fit has also committed to prepay further debt using proceeds from the sale.

The approval deadline is set for 28 April.


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