Leveraged Loan Markets

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					                      Leveraged Loan Markets
Reflecting Thus Far & Themes For Investing In Debt Via Secondary Trades




                                                            October 2008




                                                                        by
                                                           Sachin Sarnobat
                                                            (917) 940 9793
Preface
Over the last several years, private equity, a word that was once whispered by hushed voices has now become common parlance. The leveraged buyout
boom of the last several years made kings out of private equity players, but the king-makers in this boom were the institutional, leveraged loan investors.
Sadly, they are the ones who are ‘left holding the bag’ after the kings abdicated with the treasury.

Beginning in 2003, institutional players began dominating the leveraged loan market. Cheap liquidity raised via the CLO structures was the main driver and
eventually created excess supply. Innovations in the credit derivatives market led investors to believe that risk was truly being held by those who could
afford it. The main impact of these developments was wafer thin credit spreads and later, loose lending standards.

Concurrently with these developments, the so called decade of moderation ushered in global growth and a “decoupling” of the rest of the world from the
American growth engine. The side effect of this optimism was robust growth projections and unbridled consumer spending that supported capital spending
by corporations. Asset bubbles took over and attracted additional pools of capital from the public as well as private markets.

As the asset bubble burst, the 2007/08 credit crisis created a wide spread dislocation in the leveraged loan market because of fundamental as well as
technical reasons. This report seeks to identify some of the structural nuances and understand implications of this dislocation from a secondary debt
investors standpoint.

This report is divided into the following sections:
• Key implications of the last several years (p3)
• Broad investment themes (p9)
• How did we get here? (p13)
• Corporate Issuers vs. LBOs (p21)
• Demand & supply technical factors (p25)
• Spreads & recovery by sector (p29)
• Analysis of secondary trading data (p33)

I look forward to your comments. Thank you for this opportunity.

Sachin Sarnobat
October 2008
New York




                                                                                                                                                              2
Key Implications of The Last Several Years




                                             3
1. Increase In First Lien Leverage
Under-collateralization, Decreased Visibility, Value Leakage, Over-Levered Cash Flows
Institutional Lenders Inadvertently Subverted The Practical Intent of Low Cost Leveraged Loans
Features          Practical Intent                                                       What Changed                  Implications

Fully secured     • Preserve value for investors even in a case of a downside scenario   • Global asset bubble,        • Under-collateralization
on a first lien   • Depends on the lenders attestation of “asset values” and               inflated underlying asset
basis               “liquidation values”                                                   values
                  • Usually a cushion between the liquidation value and the amount
                    of debt is provided

Maintenance       • Provide investors comfort that the borrower is adhering to its       • Looser covenants with       • Decreased visibility of company operating
Covenants           operating plan and is inline in achieving the business objectives      greater head room             performance for investors
                    that were outlined when the money was loaned                         • Fewer covenants             • Lower likelihood of intervention will in
                  • Incase the company deviates from operating plan, investors have      • Covenant-lite loans           advance of distress
                    a “hammer” to force the company to “come to the table” and
                    adjust/compensate investors for the increased risk

Cash Flow         • Cash flow sweeps are designed to force the company to de-lever       • Lower cash flow sweeps      • Management could now try to take on “Hail
Sweeps              and hence minimize the principal-agent problem by providing            with looser step-ups          Mary” projects – thus increasing the risk of
                    debt discipline                                                      • Equity markets were           destroying capital
                  • Creates value for junior capital as the sweeps reduce secured          ready and willing to        • Increased sponsor ownership provides
                    claims on the underlying asset over time                               provide liquidity to take     incentive to use available cash flow for
                                                                                           private companies public      restricted payments, causing value leakage
                                                                                                                         to debt investors
                                                                                                                       • Sources of equity proceeds have dried up

Fraction of the   • Traditionally, secured first lien leverage with maintenance          • Leveraged loans because     • Good quality companies that are over-
entire capital      covenants formed a small fraction of the capital structure             the dominant part of the      levered on a first lien basis
structure         • This ensured that companies were able to meet maintenance              capital structure           • Companies that needed a bond-heavy
                    covenants even with significant deviations from operating plan,                                      defensive, structure were now levered to
                    but the presence of the maintenance covenants kept them on                                           the hilt with maintenance covenants
                    track
                  • Bond heavy structure with a small first lien loan component
                    provided a borrower with a solid defensive structure to withstand
                    downturns, but at the same time, optimize cost of capital by
                    availing of cheap debt capital via leveraged loans



                                                                                                                                                                     4
2. Lower Recovery Values & Higher Default Rates
Recoveries Will Be Closer to Those for Unsecured Loans because of Under-collateralization
Recovery Rates Could Between 50-60                                                                 Driving Factors & Implications
Discounted Recovery Rates By Instrument Type (1987 – 2006)                                         •       Loan loss varies from cycle to cycle and in this
                                                                                                           cycle will depend:
 90          80
 80                               70
                                                               Secured       Unsecured                        –      Quality of loans and intrinsic credit quality
 70                63                                                                                         –      Under-collateralization due to overvalued assets
                                                       56
 60                                                                                                                  and over-levered cash flows
 50                                     44                   43
 40
                                                                                                              –      Level of subordination at the time of default
 30                                                                         24                                           •    An increased use of asset based and non-
 20                                                                                                                           recourse debt has left highly liquid assets like
 10                                                                                                                           inventory and receivables encumbered
  0                                                                                                           –      Severity of downturn
            Revolvers           Term Loans            Sr. Bonds      Subordinated Bonds                                  •    Depth of current recession is expected to be
                                                                                                                              worse than the previous ones and asset values
                                                                                                                              will take longer to recover
•       Historically from 1986-2006, nominal recoveries have                                                  –      Expected market value of defaulted assets
        been 80 and discounted recoveries have been about 70                                                             •    Lack of liquidity for buyers could force more
        cents on the dollar for secured term loans                                                                            liquidations versus bankruptcy reorganizations
                                                                                                              –      Maintenance covenants (or lack thereof)
•       The difference between nominal and discounted                                                                    •    This cycle this aspect will determine how soon
                                                                                                                              lenders will be able to intervene and prevent
        recovery rates is the time value from the pre-petition                                                                collateral and recovery value erosion
        date from when the borrower halts interest payments to
        the time of recovery
                                                                                                   •       The current loan spreads imply a average
                                                                                                           default rate of 20% at 50% recovery rates
                                                                                                              –      Room for significant upside if default rate are
                                                                                                                     lower or recovery rate are higher or both
                                                                                                              –      See p37 for additional analysis


Source: S&P Fixed Income Research; US Recovery Study: Liquidity Avalanche Propels Recovery Rates Into Stratosphere, February 2007
Various public news sources.                                                                                                                                                     5
3. Lax Covenant Structures Based On Bullish Projections
Companies Will Need Lender Support For Amendments / Waivers
Covenant Headroom Increased                                                                                          Lenders Will Have Negotiating Leverage
Year One Debt/EBITDA Headroom as a Percentage of Covenant Level for LBOs                                             Lender Consent Required For Waivers/Amendments

                                                                                                                     •    Given that most of the loans have been trading
                                                             27%                           28%
30%
            24%                     25%                              26%
                                                                              23%                       24%
                                                                                                                          well below par, any amendment/waiver request
                                                23%
                        19%                                                                                               is likely to be expensive
20%                                                                                                           17%
                                                                                                                     •    For transactions that actually have
10%                                                                                                                       covenants, slightly looser covenants will
                                                                                                                          probably NOT be the key issue
 0%                                                                                                                         –   Covenants were based on bullish projections, and
            1999        2000        2001        2002         2003   2004      2005     2006         2007       1Q-              given more sober revised outlooks the cushions
                                                                                                              3Q08              will now be much tighter
                                                                                                                     •    Liquidity management will be critical for
Effective Covenant Cushions Will Now Be Tighter                                                                           companies that had planned to invest and grow
                                                                                                                          sales
Illustrative Covenant Calculations
                                                                                                                            –   Given the much greater leverage on the
           ($,mm)                                     Yr.0          Yr.1       Yr.2              Yr.3
           Projected EBITDA                               $100        $120       $132              $139
                                                                                                                                companies, positive cash flow and access to
           growth                                                      20%        10%                5%                         liquidity could be an issue
           Interest                                      $50.0        $45.0      $40.0             $35.0                    –   The credit crunch will make raising new debt
           Projected Covenant                             2.0x         2.7x       3.3x              4.0x
           Headroom or Cushion                            25%          30%        35%               35%
                                                                                                                                capital difficult
                                                                                                                     •
                            (1)
           Threshold EBITDA
           Covenant Level
                                          25%            $75.0
                                                          1.5x
                                                                      $84.0
                                                                       1.9x
                                                                                 $85.8
                                                                                  2.1x
                                                                                                   $90.1
                                                                                                    2.6x
                                                                                                                          Management will have to work with lenders to
           Realistic Projected EBITDA                      $85         $89          $98            $103                   secure covenant amendments/waivers as well
           Discount
           revised growth
                                                           15%         26%
                                                                        5%
                                                                                    26%
                                                                                    10%
                                                                                                    26%
                                                                                                     5%
                                                                                                                          as secure additional external sources of
           Realistic Covenant                              1.7x        2.0x         2.5x            2.9x                  financing
           Threshold EBITDA                                $85         $89          $98            $103
           Actual Cushion                                  15%         26%          26%             26%
           Decrease In Cushion                           (10%)         (4%)         (9%)            (9%)


(1) Minimum EBITDA required to comply with covenant requirements,
                                                                                                                                                                               6
Case Study: Dana Corp. – Value of Covenants
The Auto Supplier Completed an Expensive Amendment Seeking Covenant Relief
Lenders Can Extract Value + Readjust Terms                              Company Situation
Par paydown + coupon +upfront fees + LIBOR Floor                        Weak earnings indicative of sector underperformance

•     Company proposal in return for covenant                           •    $1.43 billion term loan was put in place in conjunction
                                                                             with Dana’s exit from Chapter 11 earlier this year
      amendment                                                                –    The loan is currently priced at L+375 and includes a 3%
                                                                                    LIBOR floor for two years
        –    $100 million pay down at par as part of the
                                                                               –    The paper was issued at a 90 OID
             economics of the amendment.
        –    50 bps spread increase that would take pricing to          •    Dana (BB-/B1 corporate) announced significantly weak
             L+425                                                           results
        –    3% LIBOR floor extension                                          –    Third-quarter EBITDA of $15 million was $111 million below
                                                                                    results for the same period in 2007.
        –    150 bps fee on post-paydown outstandings                          –    Lower production and higher steel costs of $140 million
                                                                                    more than account for this reduction
                                                                               –    Results also included higher pricing, cost savings, and
                                                                                    unfavorable currency changes
Having Covenants Is Critical For Value Capture                                 –    Dana is planning up to 10 additional plant closures in 2009
                                                                                    and 2010, and it has expanded its targeted 2008 workforce
Term Loan trading under 70 / Total Leverage Covenant of 2.9x Breached               reduction to 5,000 from 3,000
                                                                               –    YTD EBITDA of $290 million vs. $373 million for the same
•     The automotive supplier is projecting year-end non-                           period in 2007
      compliance with the covenants on its term loan                           –    Full-year sales of $8.2 billion and EBITDA of $300 million
        –    The company was in compliance with the 3.1x total-                     expected
             leverage test as of Sept. 30                               •    Dana maintaining large cash reserves to preserve access
        –    However, the leverage covenant is due to step down              to liquidity
             to 2.9x on March 31, 2009, with additional step-downs             –    The auto supplier had a $1.0 billion cash balance at Sept. 30,
             in subsequent quarters                                                 including $180 million that it drew during October from its
                                                                                    $650 million revolving credit
                                                                        •    Free cash flow of negative $151 million for the third
•     The term loan is quoted at 63.5/65.5 with the entire                   quarter was about the same as that during the same
      auto sector is under pressure                                          period in 2007



                                                                                                                                                7
  4. Thin Equity Cushions With No Sponsor Support
  Private Equity Sponsors Will Act In Their Self Interest, Often To The Detriment of Lenders
  Asset Values Increased…                                                                                   Other Peoples Money
  Average Purchase Price Multiples Of LBO Transactions                                                      Sponsor Ownership Will Act Against Debt Holder Interest
12.0x
                                                                                              9.8     9.7   •    Unprecedented availability of cheap liquidity led
10.0x                                                                                 8.6
          7.9        8.1     7.7
                                                           7.1     7.4
                                                                           8.2                                   tight equity cushions in recent LBO transactions
 8.0x                               6.3              6.5
                                             6.1                                                                   –    Eq. In the Tribune transaction, the present value of the
 6.0x
                                                                                                                        tax savings was presented to the debt investors as part
 4.0x                                                                                                                   of the equity cushion
 2.0x                                                                                         3.5    4.2                   •   The tax savings were only important as long as
          2.4        2.4     2.6    2.2      2.3     2.5   2.6     2.3     2.6    2.9
 0.0x                                                                                                                          Tribune was earning positive taxable income
          1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007                                      1Q-                  •   As the business performance has gone south, the
                                                                                                     3Q08                      present value of the tax savings has diminished
  Equity/EBITDA            Others    Sub Debt/EBITDA          Senior Debt/EBITDA             Total
                                                                                                            •    Sponsors acting to maximize returns to their
                                                                                                                 limited partner investors, do not have enough “skin-
  …With Lower Equity Cushions                                                                                    in-the-game”
  Average Equity Contributed As % of Total Purchase Price                                                   •    Equity investors can usually intervene in troubled
50%                                                                                                              companies and support the going concern value by
          Public-to-Private              All Other                                                               providing liquidity and recapitalizing the business
40%                                                                                                 38%            –    The main motivation is to preserve the residual value
                                                                                                                        of the equity holders
               30%         32%     31%               31%             30%        31%         31%
30%     28%                                                  27%                                            •    Sponsors have taken the opposite path by going
                                                                                                                 down the dividend-recapitalization route
20%                                                                                                                –    Companies that have been over-levered because of
        1998    1999        2000 2001         2002    2003    2004       2005    2006 2007            1Q-               sponsor dividends will face challenges in terms of
                                                                                                     3Q08               raising additional equity capital


  Source: S&P LCD Comps
                                                                                                                                                                                 8
5. Access to Take-Out Capital Determines Returns Today
Take-Out Capital Supply is Lower Than Initially Invested, But Will Grow Over Time With GDP

                  Type             Source           Requirements for Target Investment

                                                  - Strong franchise values that sustain
                 Internal   Organic Cash Flows    through the cycle                             Desirable
                                                                                               (Higher Rated)
                                                  - Access to liquidity


                            Equity Markets        - Franchise value can support growth


                                                  - Well known issuer that has good
                            Debt Markets
  Take-Out                                        relationships with debt investors
   Capital
  Available                                      - Availability of DIP Financing
                 External                        - Customer lock-in and influence over
                                                 suppliers that preserves value through the
                            Ch-11 Reorganization
                                                 reorganization
                                                 - Access to public/private capital markets
                                                 for bankruptcy exit

                                                  - Easily separable assets                   Less Desirable
                            Ch-7 Liquidation
                                                  - Readily identifiable buyer                 (Lower Rated)

                                                  - No access to incremental liquidity
                                                  - Excess capacity in industry
Limited Access    None      Ch-7 Liquidation
                                                  - Weak competitive position                       ?
                                                  - Fundamental industry restructuring

                                                                                                                9
Broad Investment Themes




                          10
Investment Themes Relevant In Current Environment
                   Theme                                         Sector Related Issues                              Company Related Issues

Discretionary      • Discretionary consumer spending that        • Avoid sectors that were levered for robust       • Commodity vs. differentiated value proposition
Consumer             drives almost 70% of the US GDP was           consumer spending cash flows                     • Differentiated value proposition needs to be
Spending             significantly over estimated                • Avoid sectors that have fixed costs and high       sustained, quality driven, non-discretionary and
                   • Capital expenditures that were                capital expenditures                               important to customer’s competitive advantage
                     committed to before the crisis could
                     cause significant over-supply

Recession          • The recession trough could be much          • Pick defensive sectors that serve a core         • Pick companies with high degree of variable costs
                     deeper than past recessions and last          customer base that provide critical services       that can be cut as sales decline
                     much longer                                 • Even if margins decline, ability of companies    • Capital structures will need to be defensive
                                                                   to avoid negative cash flows will determine
                                                                   survivors

Liquidity          • Banks are undercapitalized and access       • Pick sectors that are not capital intensive      • Company should have revolving credit facilities as
                     to liquidity will be severely constrained   • Additionally, because of asset-light nature,       well as room under its credit
                                                                   these sectors should have strong brands,           agreements/indentures that offer flexibility to
                                                                   proprietary intangible assets, value-added         execute asset based lending agreements
                                                                   service oriented components

Capital Spending   • Capital spending will be deferred           • Pick sectors that need capital expenditures      • Pick companies with access to liquidity over the
                     because of lack of financing                  based on replacement cycles                        next several years with reliable counterparties
                                                                                                                    • Backlog driven industries with strong credit
                                                                                                                      worthy customers

Marginal           • Marginal producers will be                  • Sectors where capacity utilization affects       • Producers that supply the last x% of demand at
Producers            disproportionately hit                        pricing will favor level utilization companies     premium pricing will be affected
                                                                   even if they are not the lowest cost
                                                                   producers

Obsolescence of    • Sectors like Auto, Residential Homes,       • Complementary industries will suffer             • Need to look to collateral values of the market
Business Models      that relied heavily on availability of      • Too much uncertainty for non-investment            leader in these sectors
                     financing will have to be restructured        grade, highly levered borrower                   • Smaller players could be squeezed from not being
                                                                                                                      able to re-write the rules of the game to their
                                                                                                                      favor




                                                                                                                                                                   11
Investment Themes Relevant In Current Environment
                  Theme                                       Sector Related Issues                      Company Related Issues

Sponsors          • In a distressed scenario, sponsors        • Certain sectors such as retail,          • Sponsors should have enough “skin-in-the-game” to care,
                    should be able to provide equity            chemicals saw dividend                     else if the sponsor has taken a dividend off the table then
                    injections to keep the business solvent     recapitalizations mere months after        solvency in a distressed scenario could lead to bankruptcy
                                                                the companies were taken private           fairly quickly

US vs. Non-US     • Exposure to fast growing Asian markets    • Sectors that are regionally              • Market leadership in fast growing markets and access to
Revenues                                                        serviced/supplied via a local              liquidity to support market share growth
                                                                franchise

Bankruptcy        • Even if bankruptcy is the optimal         • If entire sector is distressed, then     • Company need to be in jurisdictions that are friendly to
                    answer to keep going-concern value,         bankruptcy reorganization could            enforcing on liens and where bankruptcy reorganization
                    current downturn might depress asset        lead to liquidation versus a sale and      does not cause value leakage to junior capital
                    values, and not provide liquidity to        might not maximize value
                    potential buyers

Size              • Mega-LBOs like TXU and HCA would not      • Mega-LBOs in “toxic” sectors like        • Need to verify underlying collateral value and structure
                    have happened without the level of          Autos, Financials will be challenging      that will enable lenders to capture that value for par
                    cheap liquidity                             to execute successfully and exit           payback on the secured loan
                  • Great companies with premium              • Any governmental intervention            • Mega-LBO candidates were market leaders in their space
                    franchise value even if leverage is a       increases uncertainty                      and provided strong, stable cash flows
                    concern                                                                              • Need to verify that sponsors have “skin-in-game” and are
                                                                                                           pre-dividend recapitalization
                                                                                                         • These companies will make excellent IPO candidates when
                                                                                                           the equity markets open again

Structure         • Covenant-lite, PIK Toggles, Incurrence                                               • Need strong understanding of the sector as well as
                    Term Loans                                                                             company to understand the level of distress
                                                                                                         • Lack of covenants will add a level of complexity to
                                                                                                           negotiate with borrower

Working Capital   • Working capital management will be        • Sectors that traditionally involved      • Strong customer power will require suppliers to finance
                    focus of most management teams              supplier financing will get squeezed       inventories at their own expense
                                                                because suppliers lines of credit will
                                                                no longer be able to support them




                                                                                                                                                                 12
What Makes An Ideal Target for Debt Investments?
Strategic Analysis of Company vis-à-vis Buyers, Suppliers & End-Consumers
        Suppliers                                                    Ideal TargetCo                                               Buyers or Customers                     End-Consumer
• Large number of smaller        In a recession scenario, the ideal TargetCo will have:                                           •   Smaller than Company           • Demands differentiated
  suppliers that are             • Customer lock-in via contracts in the “right” industries                                       •   Profitable, well capitalized     product based on sustained
  commodity pricing driven       • Customer switching costs that need cash expenditure                                            •   Replacement cycle driven         value proposition
• Excess capacity in supplier    • Companies that help their customers achieve and sustain cost competitiveness                   •   Depends on TargetCo to         • Cost of low-quality is high
  industry                       • Ability to assume a greater number of buyer activities more efficiently and cross sell             provide goods or services      • Few substitutes
• Specialized suppliers            additional services to enhance revenue                                                             critical to its competitive    • Not discretionary buyer
  dependent on specific          • Ability to find new, alternative product markets                                                   advantage with end-            • Stable base of necessity
  industry demand                • Constant utilization companies will have lower costs even though smaller competitor s              consumer                         driven buying behavior
• Suppliers that have access       grow faster during the upturn                                                                  •   Quality driven needs           • Replacement need or
  to vendor financing            • Strong regional franchise                                                                      •   Customization driven with        maintenance driven buying
  facilities to provide credit   • Industries that do not have a need for extensive marketing/advertising                             heavy interaction between        pattern
  lines to TargetCo              • Low working capital needs because of well capitalized buyers                                       respective teams               • In case of service industries,
• Located close to TargetCo      • Lean operations with non-critical operating activities outsources to lowest cost producer      •   Small portion of end             recession resistant needs
  and provides lock-in           • Experienced management team that has seen a previous downturn                                      product costs                    like healthcare services
                                 • No adverse regulatory pressures                                                                •   Ability to out-source          • Geography of end-
                                 • Defensive capital structure with presence of bonds to minimize maintenance covenants               additional services to           consumer will play a factor
                                                                                                                                      TargetCo
                                              Product Focus                                    Industry Focus                     •   Avoid customers that could
                                                                                                                                      demand specific
                                 Product focused companies specialize in       Industry specialists provide a broad range of
                                                                                                                                      performance and
                                 an application of their technology across     services for a tailored to a particular industry
                                                                                                                                      potentially renegotiate
                                 various industries                            and depend on the health of that industry
                                                                                                                                      contracts in a bankruptcy
                                                                               and related industries that support it                 scenario

                                 Ideal players would have:                     Ideal players would have:
                                 • Quasi-monopolistic markets                  • Industry leadership, market share, brand
                                 • Proprietary technology                      • Customer demanding specialization,
                                 • Complex product or patents                    customization
                                 • Some economies of scale that prevent        • Complex assets like factories that need
                                   industry specialists from competing           significant investments
                                   with them and allow them to be lowest       • Oligopolistic markets that understand the
                                   cost producers                                dynamics of capacity driven pricing because
                                 • If product is simple, cost focused            fixed costs create penalty for
                                   customer                                      underutilization
                                 • If product is complicated, quality          • Should not be marginal producer
                                   focused customer, but without need
                                   for extensive customization
                                 • Variable costs that can be cut at short
                                   notice with decreased revenues



                                                                                                                                                                                                   13
How Did We Get Here?




                       14
        Leveraged Loan & High-Yield Bond Volumes
        Institutional Ownership Fueled Leveraged Loan Issuance and The Subsequent Debt Boom
        Pre-2003 Banks Dominated The Leveraged Loan Market, But Institutional Demand Took Over And Multiplied from 2004-2007
        # Transactions Without Upfront Fees                                                          Institutional Volume Outstanding: $1,338bn
                                                                                                      First Lien     Second Lien         Sr Secured        Sr Unsecured        Subordinated
                                                            Institutions
                  Institutional     Bank                                                          $1400B
$800B                                                                                                                                                                                121
                                                                                                  $1200B                                                                       107
$700B
                                                   Banks                                                                                                              113
$600B                                                                             149             $1000B                                                                                             41
                                                                           159                                                                                                       551
$500B                                                                                                                                                                          531                   %
                                                                                                   $800B                                                        119
                                                                                                                                                                                                             9%
$400B                                                                                                                                                   121           495
                                                            112                                                                                   121                                 81
            209                                                     112                            $600B                                   121                                  71    32      6%
$300B                                                                                                                                                           461             35
                     184                              74                          527
                                                                           465                                                     94                   396               66                   3%
$200B                                                                                              $400B                    91                    374                     24
                             139     105     81             286                           59                        79                     335                                                               41
                                                      233           277                                      71                    260                          63                   554
$100B       201      168                                                                                                    231                         71      12             522
                             101     117     121                                          114      $200B            182                           66     9            376                                    %
                                                                                                             159            16     19      39
                                                                                                                                            0      1
  $0B                                                                                                        16     14                                  184     235
                                                                                                             75     100     126    130     136    147
           1998      1999    2000    2001   2002     2003   2004   2005    2006   2007 YTD 7/08      $0B
                                                                                                             1998 1999 2000 2001 2002 2003 2004 2005 2006 2007YTD 7/08


        The Demand/Supply Mismatch and Increased % Institutional Ownership, Led To Looser Lending Standards
        # Transactions Without Upfront Fees Is an Indicator of Demand Vs. Supply                     % Institutional Ownership of Leveraged Paper
500                                                         409                                      60%
400                                                                 261
                                                     229                   251    220
300                                                                                                  50%
200                                          72                                                                                                                                                        44%
100        2         1       0       2                                                     0         40%
  0
                                                                                                     30%
          1998     1999     2000    2001    2002     2003   2004   2005    2006   2007   3Q08
                                                            86%    93%     86%
100%                                                                                                 20%
                                                     67%
75%
                                            36%                                   40%                10%
50%
25%        0%       0%               1%                                                               0%
                             0%                                                           0%
 0%                                                                                                      Jun-96    Oct-97   Mar-99       Jul-00   Nov-01     Apr-03   Aug-04      Jan-06   May-07   Oct-08
          1998      1999    2000    2001    2002     2003   2004   2005    2006   2007   3Q08


                                                                                                                                                                                                    15
  Mega-Accounts Lead To Mega-LBOs
  As The Market Was Overrun by Cheap Liquidity, Deals Grew Increasingly Ambitious & Issuer Friendly
  The Top 10 Accounts Got Larger                                                                                    Increased Number of Institutional Investors
  Top 10, 10-20, 20-30 Account By Size ($,mm)                                                                       Investor Groups that Made 10 or More Primary Commitments Each Year
900                                                                                                                  300
                  Top 10 Accounts By Size     11-20th Account by Size         21-30th Account By Size                                                                                                     261
800
                                                                                                                     250                                                                            218
700
600                                                                                        357                       200                                                                     168
500
                                                                                                                     150
400                                                                                                                                                                                    116
                                                                                                     237                                                                          98
300                                                                                 232                              100                                                     76                                  79
                                                                                           277                                                                     64
200                                                                           130                                                              48   54
                                                                     122                                                                                      42
                             151                              91                    110              128              50        22   29
100                  74                                69     64     65       82
           58        36      48         43   39        41
           23                           25   26
 --                                                                                                                    0
           1997     1998 1999       2000 2001          2002   2003 2004       2005 2006    2007 3Q08                        1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 3Q08



  …resulting In Mega-LBOs i.e. Companies That Would Not Have Experienced Those Levels of Debt
  Number Of LBOs (#)
  200
                          $500 million-$1 billion              $1-2 Billion           $2-5 billion                $5 billion or more
                                                                                                                                                                         7
                                                                                                                                                                        21
  150                                                                                                                                                     4                                     4
                                                                                                                                                         14                                    14
                                                                                                                                                                        55
                                                                                                                                                         46                                    44
  100
                                                                                                                                        6
                                                                                                                            4          22
      50                                                                                                                   17                                           98
                                                                                                                                                         93                                    90
                                                                                                           12                                                                                                4
                                                   1                                       3                               47             52                                                                11
                6                   4              7            2                          29               33
                                   15             17           15             113                                                                                                                           23
      0
                  1997            1998        1999            2000         2001           2002             2003         2004           2005          2006           2007                     1Q-3Q07      1Q-3Q08


  Source: S&P LCD Comps
                                                                                                                                                                                                                 16
    Debt Multiples & Covenants Over Time
    Increase In First Lien Leverage With Loose Covenants Incurred In A Bullish Market
    First Lien Leverage Increased To Levels Only Second to 1987

     10.0x       8.8
                                                                                                             Sub Debt/EBITDA                 Other Sr Debt/EBITDA              SLD/EBITDA                 FLD/EBITDA
      8.0x                7.1
                                   6.7
                                                                                        5.8    5.6                                                                                                                              Total
      6.0x                                  5.3               5.1      5.3      5.2                   5.2
                                                     5.0                                                                                                                         4.9      4.7                                   Debt
                                                                                                             4.5                                        4.2      4.3     4.4                        4.3
                                                                                                                     4.0      3.7      3.8     3.9                                                                     3.9
                                                                                                                                                                                                               3.6
      4.0x                                                                                                                                                                                                                      First
                                                                                                                                                                                                                                Lien

      2.0x

      0.0x
                 1987     1988    1989     1990     1992     1993     1994     1995     1996   1997   1998   1999    2000     2001    2002     2003    2004   2005     2006    2007 4Q07 1Q08 2Q08 3Q08




    Number of Covenants Dropped Below Three…                                                                        …and 60% had Two or Fewer Covenants
    Number of Covenants (Excludes Covenant-Lite Transactions)                                                       % of Covenants (Excludes Covenant-Lite Transactions)
5                                                                                                                                                                                       2 or less          3         4 or more
                                                                                                             100%
                                                                                                                                                                                                                     15%     15%
4                                                                                                                                                                                               33%
                                                                                                                                                                                                          25%
                                                                                                              75%                                                                      46%
                                                                                                                                                                   62%                                               28%
3                                                                                                     2.6                                                 69%              66%                                               41%
                                                                                               2.3                              75%      77%     75%
                                                                                                                       82%
                                                                                                                                                                                                          42%
                                                                                                              50%                                                                               39%
2
                                                                                                                                                                                       37%
                                                                                                              25%                                                  24%                                               57%
1                                                                                                                                                         20%              23%                                               44%
                                                                                                                                18%      18%     19%                                            28%       33%
                                                                                                                       14%                                                             17%
                                                                                                                                 6%                       10%      13%     11%
                                                                                                               0%      4%                5%       6%
0
     1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007                                            1Q-             1997     1998    1999     2000     2001     2002    2003    2004      2005         2006       2007 1Q-3Q08
                                                                                                      3Q08
    Note: For years 1987-1996 Sub Debt/EBITDA reflects all Non Bank Debt/EBITDA
    Criteria: Pre-1996: L+250 and Higher; 1996 to Date: L+225 and Higher; Media Loans
    Excluded; There were too few deals in 1991 to form a meaningful sample
                                                                                                                                                                                                                           17
 Leverage & Coverage Multiples
 As The Market Was Overrun by Liquidity, Deals Grew Increasingly Ambitious & Issuer Friendly

 Leverage Multiples Increased As Companies Levered Themselves With Tighter Interest Coverage
 Total Leverage                                                                              Interest Coverage
        <3.0x     3.0x-3.99x   4.0x - 4.99x     5.0x - 5.99x    6.0x - 6.99x      >7.0x
                                                                                                     <1.5x     1.5x - 2.99x     3.0x - 3.99x     >4.0x
$500B                                                                     73                 $500B
                                                                51        39                                                                                         122
$400B                                                           35                           $400B                                                           120
                                                                51        78
                                                                                                                                                                     137
$300B                                                                     88                 $300B                                                           115
                                          38         32         136
                                          33         16                                                                                    92        96
$200B                           39        36         43                                      $200B                              58
                                19                                        141                                                              36
                                32        56         61                                                                         35                   46      175     219
                                38                              121                                      13
$100B       26         23
                       10                 52         52                              16
                                                                                      9      $100B       14         24
                                                                                                                    19          106       136                                37
            13
            22         19       51                                                   15
                                                                                     22                  64                                         111                      25
            24         22
                       20                            74                   107        26                             58                                                       43
            15         27       55        70                    71                   27                  26         20          33         23       24        55     49       9
 $0B        18                                                                                $0B
          Dec-01     Dec-02    Dec-03   Dec-04     Dec-05      Dec-06    Dec-07     Jun-08             Dec-01 Dec-02 Dec-03 Dec-04 Dec-05 Dec-06 Dec-07                     Jun-08



 ..But At The Same Time Relied On IPO Proceeds From Equity Markets To Pay Down Debt
 Excess Cash Flow Sweeps                                                                     Equity Issuance Recapture
$600B                                                                                        $600B
                0% Sweep       50% Sweep          75% Sweep           100% Sweep                         0% Sweep             50% Sweep         75% Sweep     100% Sweep
$500B                                                                      11                $500B
                                                                                                                                                            37     158
$400B                                                           102                          $400B
                                                                                                                                                            125     --
$300B                                                                                        $300B
                                                                          500                                                             46        28
                                                                                                                                                     8
                                          132        111                                     $200B                              35        37
$200B                                                                                                                           --                                 369
                                145                             349                                                                                         302
                                                                                                                                                   213
$100B                                                                                        $100B       30         28         198        197                               28
                                                                                                                                                                            --
                       76                            158                              41                 13         18
            94                            146                                                                                                                               85
                                79                                                    73                 74         75
 $0B        18         46                                                                      $0B
           2001       2002     2003      2004       2005       2006      2007       3Q08                2001       2002        2003    2004        2005     2006   2007    3Q08


Source: S&P LCD Comps
                                                                                                                                                                                 18
       Debt Innovations Like Cov-Lite & PIK Toggle Loans
       Competition To Deploy Capital Led To Sponsors To Push The Envelope on Structure
       Approximately $90billion of Covenant-Lite Loans Are Currently Outstanding
       Par Volume of Covenant Loans Currently Outstanding

  $100bn                                                                                                                                                                                                                                                                                                                                        92

      $75bn

      $50bn

      $25bn

          --
                          Dec-05
                                   Jan-06
                                            Feb-06
                                                     Mar-06


                                                                        May-06
                                                                                 Jun-06


                                                                                                   Aug-06
                                                                                                            Sep-06
                                                                                                                     Oct-06
                                                                                                                              Nov-06
                                                                                                                                        Dec-06
                                                                                                                                                 Jan-07
                                                                                                                                                          Feb-07
                                                                                                                                                                   Mar-07


                                                                                                                                                                                      May-07
                                                                                                                                                                                               Jun-07


                                                                                                                                                                                                                 Aug-07
                                                                                                                                                                                                                          Sep-07
                                                                                                                                                                                                                                   Oct-07
                                                                                                                                                                                                                                            Nov-07
                                                                                                                                                                                                                                                     Dec-07
                                                                                                                                                                                                                                                               Jan-08
                                                                                                                                                                                                                                                                        Feb-08
                                                                                                                                                                                                                                                                                 Mar-08


                                                                                                                                                                                                                                                                                                   May-08
                                                                                                                                                                                                                                                                                                            Jun-08


                                                                                                                                                                                                                                                                                                                              Aug-08
                                                                                                                                                                                                                                                                                                                                       Sep-08
                                                                                                                                                                                                                                                                                                                                                Oct-08
                Dec-04




                                                              Apr-06




                                                                                          Jul-06




                                                                                                                                                                            Apr-07




                                                                                                                                                                                                        Jul-07




                                                                                                                                                                                                                                                                                          Apr-08




                                                                                                                                                                                                                                                                                                                     Jul-08
       Covenant-Lite Term Loans Trade at a Discount To Comparable Credits
       Average Nominal Spread (bps)                                                                                                                                                  Average Bid
275                                                                                                                                                                           105

                                                                                                                                       L+257bps                               100
250                                                                                                                                                                              95
                                                                                                                                                             32bps
                                                                                                                                                                                 90
                                                                                                                                       L+225bps
225                                                                                                                                                                              85
                                                                                                                                                                                 80
200                                                                                                                                                                              75
                                                                                                                                                                                                                                                                                                                                                73.12
                                                                                                                                                                                                                                                                                                                              570bps
                         Covenant-Lite                                 All Other First-Lien                                                                                      70
                                                                                                                                                                                                                 Covenant-Lite                                All Other First-Lien                                                              67.43
175                                                                                                                                                                              65
      Jan-06 Apr-06 Jul-06 Oct-06 Jan-07 Apr-07 Jul-07 Oct-07 Jan-08 Apr-08 Jul-08 Oct-08                                                                                             Jan-06 Apr-06 Jul-06 Oct-06 Jan-07 Apr-07 Jul-07 Oct-07 Jan-08 Apr-08 Jul-08 Oct-08

       Source: S&P LCD Comps & Markit.
                                                                                                                                                                                                                                                                                                                                                    19
Why Do Cove-Lites/PIK-Toggles Trade At A Discount?
Lenders Dislike Lack of Visibility, Cannot Capture Waiver/Amendment Fees or Adjust Terms

Approximately $100billion of Covenant-Lite Loans Are Currently Outstanding
•       Lack of covenants are adverse to debt value because they complicate the principal-agent problem and
        delay identifying potential issues to lenders
          1.    Delay extracting value from the borrower as consent fees because of technical amendments
          2.    Prevent renegotiating the terms of the debt structure to adjusted for the revised risk profile
          3.    Since secured loan covenants tend to be breached first, prevents the lenders from intervening and helping the
                management correct course
          4.    Borrower may decide to stay the course and cause value leakage from the collateral until a point of no-return
          5.    Lack of visibility of when default will hit, adds to lender apprehension as lenders cannot manage their risk and exit
                position before the borrower is in a serious default



Covenant-Lite Loans Preclude The Lender From Capturing Amendment & Covenant Relief Fees
Average Covenant Relief Amendment Fee (bps)                             Average Covenant Relief Spread Increase (bps)

80bps                                                                    250bps
70bps                                                             63
                                                                         200bps                                                         164
60bps
50bps                                                                    150bps
40bps
30bps                                                                    100bps
20bps                                                                     50bps
10bps
 0bps                                                                      0bps




Source: S&P LCD Comps & Markit.
                                                                                                                                          20
 Lastly, Ratings Were Issued In A Bull Market
 Loans Are “Notched Up” Based On Historical Recovery Rates
 All BB Loans Are Not Born Equal                                                                                Loan Or Facility Based Ratings Are Higher…
 Loan Ratings Could Overestimate Recovery Value                                                                 Loan / Facility Based Ratings
                                                                                                                                      50%                                                 50%
 •        LBOs were structured to a single B corporate rating and                                               $150B                                 134
          a BB loan rating                                                                                                                                  117
 •        Ratings considered should be corporate ratings rather                                                                                  92
          than facility ratings                                                                                 $100B
             –       Due to the recent trend of highly levered LBOs, debt service
                     and access to liquidity will be important                                                                                                                                                      61
                                                                                                                                                                  56
                                                                                                                                            43
 •        Loan ratings incorporate the positive effects of the                                                  $50B                                                      32
          security and liens on recovery value in case of                                                                             18                                        16                            13
          bankruptcy                                                                                                     1    5                                                       5    2    2        0
 •        Borrower default is tightly correlated to corporate                                                    $0B
          ratings                                                                                                       BBB+BBB BBB- BB+ BB BB- B+                B       B- CCC+CCC CCC- CC             C       D NR



 Loan/Facility Ratings & Spreads                                                                                ..But Corporate Ratings Will Also Be Important
 Average Secondary Spread Based On Loan Ratings                                                                 Corporate Credit Ratings
                                                                                                                                      20%                                                 80%
                                                                                              3,176
 L+3,200bps                                                                                                     $200B
                                                                                2,653
 L+2,700bps                                                                                                                                                 157
                                                                                                                $150B                                                 116
 L+2,200bps                                                       1,728                                                                                                        103
                                                   1,456
 L+1,700bps                          1,265                                                                      $100B                                 69                                                           70
                      1,088
 L+1,200bps                                                                                                                                      31
                                                                                                                $50B
     L+700bps                                                                                                                                                                        17                      15
                                                                                                                          1       3        10                                               3       1
     L+200bps                                                                                                    $0B
                       BB+            BB            BB-            B+             B             B-                      BBB BBB- BB+             BB   BB-   B+        B        B- CCC+ CCC          CC       D     NR


Note: Includes loans that are priced and those that are not priced. Vast majority are institutional tranches.
Secondary Spread calculations assume discount from par is amortized evenly over a three-year life.                                                                                                                 21
Corporate Issuers vs. LBOs




                             22
Large Corporate Issuances Peaked In 2007
The LBO Boom Also Allowed Corporate Issuers To Avail The Same Loose Covenants
$130 billion of Volume in 2007                                            Commentary
$,Bn of Corporate Transactions that Were Opportunistic Refinancings
                                                                          •   As the large Mega-LBOs were being structured,
$160B
                                                         131
$140B                                                                         large corporate opportunistic refinancings
$120B
$100B
 $80B
                                   76
                                        65                                    peaked in 2007
                                                55
 $60B                   38
 $40B
             13
                                                                          •   These transactions structured similar to LBO
 $20B                                                                 0
  $0B                                                                         transactions, but had lower leverage and higher
                                                                              coverage ratios

Average of $780mm Per Transaction in 2007                                 •   The current environment allows for investing in

#Corporate Transactions that Were Opportunistic Refinancings
                                                                              a select pool of corporate loans that are direct
 300                                                                          competitors of the companies that were LBOed,
 250                              231
                                        207                                   but have much more flexibility from a capital
 200                                                     166
                                               141
 150                                                                          structure standpoint
                       93
 100
            40
  50
                                                                      0
   0




Source: S&P LCD Comps & Markit.
                                                                                                                                 23
Corporate Vs. LBO
Corporate Transactions Have Been 1.1x Turns Less Levered With 0.8x Increased Coverage


                     Total Debt/EBITDA        Senior Secured Debt/EBITDA     EBITDA/Cash Interest       EBITDA - Capex/Cash Interest
               LBO      Corporate        ∆    LBO     Corporate     ∆      LBO     Corporate        ∆   LBO      Corporate      ∆

  1Q-3Q08       4.9x         3.7x    1.2x      4.2x       2.9x    1.3x      3.0x       4.4x    (1.4x)     2.3x       3.0x    (0.8x)

      2007      6.2x         4.9x    1.3x      5.5x       4.4x    1.1x      2.1x       3.0x    (0.8x)     1.6x       2.4x    (0.8x)

      2006      5.4x         4.4x    1.0x      4.6x       3.9x    0.7x      2.3x       3.1x    (0.8x)     1.9x       2.4x    (0.5x)

      2005      5.3x         4.3x    1.0x      4.0x       3.6x    0.4x      2.7x       3.6x    (0.9x)     2.1x       2.7x    (0.6x)

2005-07 Avg.    5.6x         4.5x    1.1x      4.7x       3.9x    0.7x      2.4x       3.2x    (0.8x)     1.9x       2.5x    (0.6x)

      2004      4.8x         4.3x    0.6x      3.3x       3.1x    0.2x      3.4x       4.0x    (0.6x)     2.6x       2.8x    (0.2x)

      2003      4.6x         4.1x    0.6x      2.8x       2.7x    0.1x      3.1x       3.7x    (0.6x)     2.5x       2.5x     0.0x

      2002      4.0x         4.0x    0.0x      2.5x       2.7x    (0.2x)    3.2x       3.6x    (0.4x)     2.4x       2.4x    (0.0x)

      2001      4.1x         4.0x    0.0x      2.7x       2.6x    0.1x      2.7x       3.2x    (0.5x)     2.0x       1.8x     0.2x

      2000      4.2x         4.2x    (0.0x)    3.2x       2.8x    0.4x      2.3x       3.0x    (0.7x)     1.6x       1.8x    (0.2x)

      1999      4.7x         4.6x    0.1x      3.2x       3.2x    (0.0x)    2.3x       2.9x    (0.6x)     1.7x       1.5x     0.1x

      1998      5.4x         5.0x    0.4x      3.2x       3.4x    (0.1x)    2.1x       2.6x    (0.5x)     1.2x       1.3x    (0.1x)

      1997      5.7x         5.4x    0.3x      4.0x       3.6x    0.5x      2.0x       2.3x    (0.3x)     1.2x       1.2x     0.1x




                                                                                                                                    24
  Dangerous Precedent or New Buyer Base?
  Citadel Broadcasting Redeems Loan At Below Than Par Value via a Modified Dutch Auction
  Lenders Need To Be Careful About Hidden Traps                                   Citadel Capitalized On Absence of Buyers
  Win-Win versus Giving Away Upside                                               •   Loans generally have no provision for the borrower or
                                                                                      any of the affiliates of the borrower to redeem the loan
  •          Corporate borrowers who do not have onerous cash                         at less than par value via a Dutch auction tender
             flow sweeps like LBO buyers have the ability to use the
             excess cash flow to request an amendment for a buy-                  •   The concept of tendering for a debt instrument by the
             back below par                                                           borrower below par is not new and is used extensively
  •          As the secondary market gets weaker and liquidity is                     by issuers of unsecured and subordinated bonds when
             drying up, a greater number of lenders could be                          the bonds are trading below par
             tempted                                                                   –    This provides liquidity to existing debt holders who are
                                                                                            willing to give up value in exchange for the ability to exit
  •          This is a dangerous precedent because it not only                              their respective positions
             changes the dynamics of the leveraged loan institutional
             structure, but also creates incentive for the borrower to            •   Citadel Broadcasting sought an amendment that allowed
             be opportunistic about redeeming debt below par                          the borrower to purchase its loans at a price below par
                                                                                      as part of a modified Dutch auction
                                                                                  •   Under terms of that amendment, the issuer had the
  Transaction Overview                                                                ability to approach investors up to three times over 90
                                                                                      days to repurchase as much as $200 million of its TLA
  $1.5Bn Covenant-Lite Term Loan
                                                                                      and TLB
                          Merger; Along with an RC and TLa, backs the merger of        –    Citadel Broadcasting bought back just over $149 million of
Purpose                   the Citadel Broadcasting with Disney's ABC Radio                  senior debt after completing an amendment in March that
                          Holdings.                                                         allowed the company to purchase up to $200 million of its
                                                                                            loans at a price below par as part of a modified Dutch
Industry                  Radio; Domestic mid-market radio franchise.                       auction
Deal Size                 $1535mm                                                      –    Citadel paid an average of just under 81 to repurchase
                                                                                            paper whereas Citadel’s TLB was quoted at 45/47 recently
Corporate Rating (at
                          B+/Ba3                                                       –    Citadel’s lenders do not have an excess cash flow recapture
close)
                                                                                            provision, and the company’s covenants were flexible
Loan Rating (at close)    B+/Ba3
                                                                                       –    Lenders would not be entitled to the pay down and the
TLB (Flex)                $1535M/L+162.5 (-12.5 bps)                                        issuer could easily dividend out its cash on hand
Institutional Break Price 100.25%



                                                                                                                                                           25
Demand & Supply Technical Factors




                                    26
Demand & Supply Technical Factors
Lack of Capital Has Severely Curtailed Demand For Leveraged Loans
Prices Will Continue to Have Downward Pressure                       Demand/Supply Mismatch

•   The four main pillars of loan market technicals                  •   About $150 billion has been withdrawn from the institutional
                                                                         loan market and unless this amount is replenished, prices will
    have crumbled over the past year, in the face of                     not return to par
    the ongoing bear market                                          •   The marginal seller of loans has been the mark-to-market
                                                                         account (market value CLOs, TRS line, hedge funds) that
     1.   CLOs: Year to date, managers have priced $13.5                 remain vulnerable to redemptions
          billion of new vehicles, down from $83 billion
          during the same period last year
            •   Many TRS and market value CLOs because of
                structure mandates, are hitting selling trigger                           Demand                      Supply
                points as asset values fall further depressing
                valuations
     2.   Prime Funds: Withdrawal of assets by retail
          investors are bleeding the prime funds.
            •   Through September investors withdrew $6.4
                billion, versus $1.8 billion of net inflows during
                the first nine months of last year.
                                                                     $420bn
     3.   Repayments: Repayment rates have slowed to all-
          time lows
            •   Repayments for the year to date totaled $43.9
                billion, down 67% from the same period in
                2007, when issuers repaid $133 billion.
     4.   Institutional fund raising: Year-to-date fundings
          total $85 billion, down 70% from the same period
          last year, versus an increase of $144 billion during
          the same period in 2007


                                                                                                                                    27
 Repayment Rates Have Slowed To a Trickle
 Companies Are Conserving Cash To Ride The Downturn And Are Only Delaying Default
 Repayment Rates Dropped from $160bn to about $60bn per year as of October, 2008
 Monthly & Rolling12-month repayment amounts ($,billions)
$30B                                                                                                                                                                             $200B
                                                    Repayment amount                                                         Rolling-12mo
$27B
$24B
                                                                                                                                                                                 $150B
$21B
$18B
$15B                                                                                                                                                                             $100B
$12B
 $9B
                                                                                                                                                                                 $50B
 $6B
 $3B
 $0B                                                                                                                                                                             $0B
       Jan-01 May-01 Sep-01 Jan-02 May-02 Sep-02 Jan-03 May-03 Sep-03 Jan-04 May-04 Sep-04 Jan-05 May-05 Sep-05 Jan-06 May-06 Sep-06 Jan-07 May-07 Sep-07 Jan-08 May-08 Sep-08


 Decrease In Repayments Highlights the Severity of Potential Underlying Issues
 Companies need to deleverage to avoid default

 •        Majority of the companies that raised debt capital especially via LBOs over the last few years, were over levered
          with fixed charges being a strong demand on cash flow
             –     Deleveraging is the key attribute that will keep the companies from default since growth in EBITDA will be difficult to achieve
                   because of the global slowdown and rationalization of both GDP and sector growth projections
 •        Looser maintenance covenants and lower cash flow sweep requirements are allowing the companies to avoid
          triggering default
 •        A lack of ongoing repayments indicates that when “fate catches up” and performance erodes to a thin cushion to
          default
             1.    the deviations from projected operating plan will be significant and,
             2.    there will be a greater amount of claims on assets of lower value


 Source: S&P LCD Comps & Markit.
                                                                                                                                                                             28
2008 Has Been A Year Of Net Capital Withdrawal
CLOs Were the Overwhelming Driver of Institutional Demand from 2005-2008
Estimated Cash Inflows into Institutional Accounts By Account Type
                  CLO Issuance               CLO Pipeline Change                 Prime Funds                                     97.0
$100.0B                                                                                                                                              88.9

 $80.0B

 $60.0B                                                                                                     52.6

 $40.0B
                                                                                     25.5
                                                               16.2                                                                                                         13.5
 $20.0B        9.1                    12.1                                                        9.0
                                             1.0                      0.2 0.1               2.1                    0.7 4.2              2.6 5.5             2.8
  $0.0B
                     -0.5 -5.2                                                                                                                                    -1.0
                                                   -5.7                                                                                                                            -5.6 -5.9
-$20.0B
                     2001                 2002                     2003                  2004                    2005                 2006                 2007                   YTD08


Institutional Net Cash Flows less Change in Outstandings
  $12B
  $10B
   $8B
   $6B
   $4B
   $2B
   $0B
  -$2BJan-01      Jul-01         Jan-02   Jul-02          Jan-03      Jul-03    Jan-04      Jul-04      Jan-05     Jul-05    Jan-06     Jul-06    Jan-07     Jul-07      Jan-08     Jul-08
  -$4B
  -$6B
  -$8B
 -$10B
 -$12B


Source: S&P LCD Comps & Markit.
                                                                                                                                                                                          29
Spreads & Recovery by Sector




                               30
 Secondary Spreads & Recovery Values On Default
 Food Products, Healthcare, Industrials, Chemicals, Utilities Will Be Defensive Sectors
 BB & B Rated Loan Secondary Spreads
                                                                                                                                                                                                                             2,819                  2,902          2,925
L+3,000bps                                                                                                                                                                                            2,407
                                                                                                                                                              2,035                 2,212                                                            642             893
L+2,250bps                                                                                                        1,917        1,962          1,991                                                                          731
                                                                                                                                                                                                      444
                                                                               1,323           1,517                             89            380             273                   859
                1,122             1,146             1,312                                                         650
L+1,500bps
                                                     367                        314            440                             1873                                                                   1963                                          2260
                 290               130                                                                                                                        1762                                                           2088                                   2032
 L+750bps                                                                                                                                     1611
                 832               1016                                        1009            1077               1267                                                              1353
                                                     945
         --
                                       Healthcare




                                                                                                                                                  Retailers
                     Food Prdts




                                                                                   Utilities




                                                                                                    Industrials




                                                                                                                                                                                                                                                       Auto
                                                                                                                                                                 Electrical
                                                                                                                     Leisure




                                                                                                                                                                                       Broadcasting




                                                                                                                                                                                                          Gaming & Lodging




                                                                                                                                                                                                                                                                          Home Building
                                                            Containers/Glass




                                                                                                                                  Chemicals




                                                                                                                                                                                                                               Publishing
     B


 Recovery Values On Default
      100
                79.5                                                                                                           82.8                                                                   79.9                                           79.5
                                                                                                                  76.1
         80                                                                    70.3                                                                                                 70.3
                                  62.6              62.3                                       65.3
                                                                                                                                              55.1             53.9                                                          55.0                                   53.9
         60
         40
         20
         0
                                   Healthcare




                                                                                Utilities




                                                                                                                                                Retailers




                                                                                                                                                                                                                                                      Auto
                                                                                                                                                               Electrical




                                                                                                                                                                                      Broadcasting




                                                                                                                                                                                                       Gaming & Lodging
                 Food Prdts




                                                     Containers/Glass




                                                                                                Industrials




                                                                                                                                Chemicals
                                                                                                                   Leisure




                                                                                                                                                                                                                              Publishing




                                                                                                                                                                                                                                                                         Home Building
                                                                                                                                              Weak                            Discretionary Consumer + RE                                   Significant risks in light
                                                                                                                                              Consumer                        Exposure                                                          of government
                                                                                                                                              Spending                        Even though historical recovery                                     intervention
                                                                                                                                              +                               values are high for Gaming &
                                                                                                                                              Low Collateral                  Lodging, recent real estate boom
                                                                                                                                              Value                           could lower these values.


 Source: S&P LCD Comps & Markit.
                                                                                                                                                                                                                                                                                   31
Sub-Sectors Sorted By Sharpe Ratio
Attractive Sectors Are Highlighted In Grey
                                                           Sector                             Number Par (mm)   Bid    Avg. Size   Stdev   Sharpe Recovery
                                                           Clothing - Textiles                 13      $3,000   76.7    $230       5.2%     80%     62.3
                                                           Nonferrous Metals - Minerals        13       4,300   75.5     330       4.8%     69%     59.0
•       Criteria relevant to debt investors:               Oil And Gas                          50     22,550   77.0     450       3.1%    63%
                                                           Aerospace and Defense               30       9,600   76.1     320       3.0%    59%
          – Risk/return ratio measured by Sharpe Ratio     Industrial Equipment                 30      8,850   75.1     295       3.1%    55%      65.3
                                                           Chemicals And Plastics               52     27,050   70.1     520       4.6%    52%      82.8
          – Recovery values in even of downturn            Electronics - Electrical            41      17,750   68.1     435       5.5%     49%     53.9
                                                           Telecom                              43     34,850   83.6     810       5.6%     46%     45.3
          – Liquidity provided by secondary market as      Food And Drug Retailers              11      5,350   76.6     485       3.3%    35%      79.7
                                                           Utilities                            54     40,100   77.6     745       5.8%    34%      70.3
            measured by the par amount outstanding         Conglomerates                        17      5,350   75.9     315       4.3%     34%
                                                           Financial Intermediaries            30      25,050   72.0     835       3.4%     32%
          – Size of company within sector as measured by   Business Equipment and Services     61      30,300   72.0    495        4.6%     32%
                                                           Industrials                         196     93,500   68.7     475       4.3%    29%      70.3
            the average size of loan                       Healthcare                           97     55,450   78.6     570       3.5%    25%      62.6
                                                           Containers and Glass Products       21       9,100   76.0    435        3.9%     25%     62.3
    • The Sharpe Ratio and Standard Deviation were         Forest Products                     14      11,950   81.3     855       4.2%     23%
                                                           Food Products                       33      13,500   79.5     410       3.9%     20%     79.5
     calculated based on trading data over from January    Leisure Goods-Activities -Movies    41      18,650   67.4     455       3.7%     19%     76.1
                                                           Surface Transport                   18       6,450   63.7     360       5.0%     12%     62.6
     2002 – YTD October                                    Retailers (Not Food And Drug)       34      19,600   66.8     575       4.0%     12%     55.1
                                                           Lodging And Casinos                 44      26,100   62.6    595        5.3%     11%     81.1
                                                           Home Furnishings                    23       5,450   60.7     235       5.4%     11%     53.9
                                                           Cable and Satellite TV              24      23,200   75.2    965        5.9%      1%     85.3
                                                           Food Service                        30      10,750   73.5     360       4.5%      0%     76.1
                                                           Automotive                           53     38,350   61.1     725       6.1%     (3%)    79.5
                                                           Building And Development            60      22,450   58.2     375       4.3%     (5%)    53.9
                                                           Beverage & Tobacco                   11      3,700   76.7     335       3.7%     (7%)    76.1
                                                           Publishing                          63      40,750   57.4     645       5.8%     (7%)    55.0
                                                           Cosmetics - Toiletries              15       4,600   69.0     305       5.0%    (10%)
                                                           Radio And Television                41      24,700   64.6    600        5.3%    (10%)    85.3
                                                           Media                               115     83,850   63.4     730       5.6%    (20%)




                                                                                                                                                      32
What Sectors Will Have Access To Liquidity?
Asset Based Lending Is A Source of Capital That Can Be Raised During A Downturn
Lenders Look To Value of Specific, Easily Liquidated Collateral And Can Provide Liquidity
Asset Based Loans As a % of Total Leveraged Loan Volume
   25%

   20%
                                                                                                                                                             17.7%
   15%                                                                                                                                                               14.1%
                                                        13.3%
                                                                                                                                             11.3%
   10%                                                                   9.7%
                                                                8.6%                                                                 8.5%             7.9%
                              7.7%                                                               7.2%
                                                6.2%                                                     6.2%
            5.0%                        5.1%                                       4.8%                           4.6%      4.1%
    5%               3.3%                                                                 3.6%

    0%
            1Q04     2Q04     3Q04      4Q04    1Q05    2Q05    3Q05     4Q05   1Q06      2Q06   3Q06   4Q06     1Q07      2Q07      3Q07    4Q07    1Q08    2Q08 YTD3Q08



The Asset Based Lending Market is Used More By Some Industries Than Others
($ in millions)
 15,000
                                                                                                                                                                     11,655
 12,500
 10,000                                                                                                                                              7,883   8,416
                                                                                                                                            7,632
                                                                                                                                   6,590
  7,500
  5,000                                                                                                                  3,192
                                                                                             1,676   1,961     2,136
  2,500                                           610     700      790     1,216     1,294
             465      476         500     590
      0




Source: S&P LCD Comps & Markit.
                                                                                                                                                                         33
Analysis of Secondary Trading Data




                                     34
 Performance & Ratings Based Pricing
 Defaults & Non-Performance Haven’t Hit Secondary Pricing of Loans
 Average Bid Based On Performing Vs. Non-Performing(1) Loans
 105
 100
  95
  90
  85
  80
  75
                    Performing Loans Index            All Loans Index
  70
       12/96 6/97 12/97 6/98 12/98 6/99 12/99 6/00 12/00 6/01 12/01 6/02 12/02 6/03 12/03 6/04 12/04 6/05 12/05 6/06 12/06 6/07 12/07 6/08




 Average Bid Based On Ratings Shows The Gap Widening, But Technical Reasons Have Dominated
105
100
  95
  90
  85
  80
  75
  70
                   Current BB Index              Current B Index
  65
    12/96 6/97 12/97 6/98 12/98 6/99 12/99 6/00 12/00 6/01 12/01 6/02 12/02 6/03 12/03 6/04 12/04 6/05 12/05 6/06 12/06 6/07 12/07 6/08


Source S&P/LSTA Leveraged Loan Index and Merrill Lynch High-Yield Index (H0A0)
                                                                                                                                        35
 Relative Value: Bonds Vs Loans
 From a Relative Value Perspective, Secured Loans Seem To Undervalued
 Unsecured Bonds Traded Below Secured Loans In the Last Cycle…
 Weighted Average Bid Price For Leveraged Loans & High Yield Bonds
105
                    Loans                    Bonds
100

 95

 90

 85
                                                                                                                                                                                                            82.44
 80
                                                                                                                                                                                                            77.00
 75
       Dec-98




                                Dec-99




                                                        Dec-00




                                                                               Dec-01




                                                                                                   Dec-02




                                                                                                                      Dec-03




                                                                                                                                        Dec-04




                                                                                                                                                          Dec-05




                                                                                                                                                                             Dec-06




                                                                                                                                                                                                   Dec-07
                    Jun-99




                                            Jun-00




                                                                    Jun-01




                                                                                         Jun-02




                                                                                                             Jun-03




                                                                                                                               Jun-04




                                                                                                                                                 Jun-05




                                                                                                                                                                   Jun-06




                                                                                                                                                                                        Jun-07




                                                                                                                                                                                                                Jun-08
 …But This Cycle Has Seen Tight Correlated Moves That Imply Technical Selling Pressure
 Correlation Between Price Movements of Leveraged Loans & High Yield Bonds
1.00
                                                                                                                                                                                                                0.89
0.80

0.60

0.40

0.20

0.00
           Dec-98




                                   Dec-99




                                                           Dec-00




                                                                                Dec-01




                                                                                                    Dec-02




                                                                                                                      Dec-03




                                                                                                                                        Dec-04




                                                                                                                                                          Dec-05




                                                                                                                                                                            Dec-06




                                                                                                                                                                                                 Dec-07
                       Jun-99




                                               Jun-00




                                                                      Jun-01




                                                                                          Jun-02




                                                                                                             Jun-03




                                                                                                                               Jun-04




                                                                                                                                                 Jun-05




                                                                                                                                                                   Jun-06




                                                                                                                                                                                      Jun-07




                                                                                                                                                                                                              Jun-08
Source S&P/LSTA Leveraged Loan Index and Merrill Lynch High-Yield Index (H0A0)
                                                                                                                                                                                                                         36
Relative Value: Bonds Vs Loans
Leveraged Loans Are Yielding Spreads That Exceed Those Seen In The Last Cycle
Differential Between Unsecured & Secured Paper is ~320bps at Absolute Rates Well Above 10.00%

L+1550
                                                                                                                                 Loan Spread to Maturity                     Bond Swapped to Worst
L+1350
                                                                                                                                                                                                L+1,111bps
L+1150
                                                                                                                                                                                                                320
 L+950                                                                                                                                                                                                          bps
                                                                                                                                                                                               L+790bps
 L+750

 L+550

 L+350

 L+150
       Jan-97 Jul-97 Jan-98 Jul-98 Jan-99 Jul-99 Jan-00 Jul-00 Jan-01 Jul-01 Jan-02 Jul-02 Jan-03 Jul-03 Jan-04 Jul-04 Jan-05 Jul-05 Jan-06 Jul-06 Jan-07 Jul-07 Jan-08 Jul-08




•        The spread between secured loans and bonds accounts for:
            –      Security package, priority and liens
            –      Tighter maintenance covenants
            –      Ongoing compliance and reporting covenants
            –      Cash flow sweeps
            –      Recovery values on default or credit loss given default
•        Historically, spreads between secured versus unsecured paper have been around 218bps
            –      A 320bps spread between secured vs. unsecured either implies much lower recovery values or under pricing of
                   unsecured bonds on a relative value basis

Source S&P/LSTA Leveraged Loan Index and Merrill Lynch High-Yield Index (H0A0)
Note: Loan Spreads are spreads to 18-month call if average bid is par or higher, 2 years if average bid is 98 but less than par and 3 years if the average bid is less than 98 but greater than 92 and 4   37
years if the average bid is less than 92
Higher Default Rates and Lower Recovery Rates
The Spread of 1,166bps on the LSTA Index Implies that Recovery Values Will Be Lower Than 70%
Current Default Rate is 3.27%                                                     Implied Default Rates
Lagging 12-months Default Rate by Number of Issuers
                                                                                  Average Nominal Spread of the S&P/LSTA Index    L+280bps
    9%
    8%
    7%                                                                            Historical Average Default Rate                    3.0%
    6%
                                                                                  Historical Loss Given Default                     30.0%
    5%
                                                                          3.27%
    4%                                                                            Average Credit Loss                                90bps
    3%
    2%
    1%                                                                            Average Effective Spread                            190
    0%
      Dec-98 Dec-99 Dec-00 Dec-01 Dec-02 Dec-03 Dec-04 Dec-05 Dec-06 Dec-07
                                                                                  Historical Return from 1997-2008                   4.11%


Recovery Rates of 50% Are More Likely                                             Spread to Maturity of the LSTA                     1,166

Lagging 12-months Default Rate by Number of Issuers                               Less: Effective Spread                             (190)
                                                                                  Risk Premium                                        976

                                        Recovery Rates
                                                                                  Average Recovery Secured Loans                     70%
         LSTA Spread           25%         50%          70%          90%
                                                                                  Loss Rate                                          30%
               L+500           4%           6%         10%          31%
                                                                                  Implied Default Rate = Risk Premium/Loss Rate      33%
                 750           7%         11%          19%          56%
               1,166         13%          20%          33%          98%
               1,250         14%          21%          35%        106%
Implied Default Rates Vs. Recovery Rates (RR)
Current Trading Levels Imply a 20% Default Rate Assuming a 50% Recovery Rate
Imputed Default Rate and Lagging 12-Month Default Rate


    35%

                    70%RR             50%RR              50%RR+125bps           Actual Rate                                      33%

    30%




    25%




    20%                                                                                                                          20%

                                                                                                                                 17%
    15%




    10%




     5%
                                                                                                                                 3.3%


     0%
      Oct-98 May-99 Dec-99 Jul-00 Feb-01 Sep-01 Apr-02 Nov-02 Jun-03 Jan-04 Aug-04 Mar-05 Oct-05 May-06 Dec-06 Jul-07 Feb-08 Sep-08



                                                                                                                                        39
 As With Fine Wine, Vintage Of Loans Matters
 2007 Vintage Loans Were Mostly Trading Below Par
 Distribution of Secondary Loan Bid Price By Vintage Of Loan


                                                                                                                                              Several Mega-LBOs were structured in 2006 but never hit the
                                                                                                                                                                                       market until 2007
                                                                                                                                                 These were deals that were over-levered and pushed the
                                                                                                                                                                   envelope with covenant-lite structures



                                                                                                                        As the liquidity boom took off, several LBOs that were
               The loans issued earlier than 2003 trade at a discount because                                           structured in early part of the cycle were good quality
               probability of default increases with the age of the loan instrument                                     credit with well structured covenant and reasonable
                                                                                                                        leverage – reflected in trading behavior in loans of that
                                                                                                                        vintage
    100%
                       91%




                                                                                                                                                                                                                    91%
                                                                                                                                                            90%




                                                                                                                                                                                87%
                                                                                                                                        76%




                                                                                                                                                                                                    75%
     75%
                                      67%




                                                                                    66%
                                                            64%




                                                                                                            61%
     50%




                                                                                                                                                                                                                                     0
                                                                                                                                                                                              24%




                                                                                                                                                                                                                                         24%
                                            24%




                                                                  21%




                                                                                                                                  20%




                                                                                                                                                                                                                               20%
                                                                                                                  18%




     25%




                                                                                                                                                                                                                               0
                                                                                                      12%




                                                                                                                                                                          12%
                                                                                          13%
                                                                              11%
                                                       7%




                                                                                                                                                       9%




                                                                                                                                                                                                               7%




                                                                                                                                                                                                                                               7%
                  6%




                               4%




                                                                                                     0
                                                                          0
                              3%
                              3%




                                                                        2%




                                                                                                2%




                                                                                                                         2%
                                                  2%

                                                   0




                                                                                                                        1%




                                                                                                                                                                  0%




                                                                                                                                                                                                                          1%
                                                                                                                                              0%




                                                                                                                                                                                      0%


                                                                                                                                                                                                          0%
            0%




                                                                                                                                              0%




                                                                                                                                                                  0%




                                                                                                                                                                                      0%




                                                                                                                                                                                                                                                    0%
                                                  0




                                                                        0




                                                                                                0
                             0




                                                                                                                                                                                                          0
             0




                             0




                                                                                                                        0
            --




                                                                                                                                                                  --




                                                                                                                                                                                      --
                                                                                                                        0




                                                                                                                                                                                                          0
                                                                                                                                              0
                                                                                                                                              0




                                                                                                                                                                  0




                                                                                                                                                                                      0
      0%
                1998           1999                2000                    2001                      2002                  2003                 2004               2005                2006                2007                10/31/2008

                   Less Than 60               60 - 69.9                 70 - 79.9               80 - 89.9                 90 - 99.9              100 or More

Source: S&P LCD Comps.
                                                                                                                                                                                                                                                    40
DISCLAIMER
These discussion materials are presented solely for the purpose of demonstrating analytical and critical thinking abilities. Data used this in these materials was based on trial
subscriptions provided by Capital IQ, S&P LCD Comps, Bloomberg, Markit and other public data sources that need a fully paid subscription and are used in good faith. These
materials may not be reproduced without the written permission of the author.


                                                                                                                                                                              41

				
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