Hellman & Friedman’s attempt to strip a €1bn dividend out of a Swedish security alarms business is proving a test case of just how far private equity firms can push debt investors, as it asks bondholders to suspend customary protections that would prevent the deal.

Verisure, which is majority owned by US private equity house H&F, is looking to raise €1.8bn of new debt in the form of high-yield bonds and leveraged loans to fund the dividend and repay some existing debt.

In order to lend to riskier companies, junk bond investors usually demand covenants that place restrictions on things such as how much debt a company can raise. Because these terms in Verisure’s existing bonds do not allow for such a large dividend payment, the company is offering bondholders a fee in order to waive and amend them — through a process known as a “consent solicitation”.

“The traditional contract between private equity sponsors and high-yield bond investors is being shredded if this consent solicitation goes through,” said Sabrina Fox, co-head of European research at the credit research firm Covenant Review. “Investors should just say no. And H&F should do what PE firms have done for decades: sell the investment, realise the gain.”

A spokesman for H&F declined to comment.

Covenants have become a battleground as private equity sponsors and their lawyers have capitalised on strong demand for riskier debt to water down these protections.

While the technique H&F is using has not previously been used by a private equity firm, Swiss telecoms firm Salt pushed through a similar consent solicitation in March that allowed it to pay a SFr500m dividend to the billionaire entrepreneur Xavier Niel. Goldman Sachs was the lead bank on Salt’s deal and is the sole bank running Verisure’s consent solicitation.

“I don’t know if Salt has now opened the floodgates, but traditionally if you wanted to take money out of a business you had to raise debt at a holding company, or you refinanced the whole capital structure with new debt,” said one high-yield fund manager.

He said that the fees offered to bondholders in the consent solicitation were much lower than the pre-payment premiums they would receive if Verisure had to refinance the bonds. He added that the unusual fee structure on the deal also introduced “another layer of game theory” to negotiations with bondholders.

Rather than paying bondholders a set fee, the consent solicitation draws on a pool of cash that will be split between however many holders consent. If all Verisure bondholders agree to the deal this equates to a 1.5 per cent fee, whereas if it scrapes through with the minimum required 50.1 per cent approval, the fees are effectively doubled to 3 per cent.

This technique makes it harder for bondholders to block the deal, as obstructive investors are heavily rewarded if they jump ship and help a struggling deal to cross the line.

H&F originally invested in Verisure in 2011 alongside Bain Capital, before buying out Bain’s stake in 2015 and investing €574m of further equity in the group. In August, H&F sold a 9 per cent stake to Singapore’s sovereign wealth fund GIC.

“The issue is that the equity owners won’t actually have money at risk any more,” said the fund manager. “If you de-risk the owners, it’s just a call option for them now.”

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