Amusingly, Burger King's S-1/A shows the offering price for their IPO is going to be around $15-$17. The S-1/A shows a maximum of $17. I am amused by this only because this looks a lot like KKR's Sealy IPO. Apparently, it is a slow day for me. It is interesting to peruse the S-1/A and see what tumbles out. (There is actually a section header labeled "Why We Are 'The King'" for instance). For some reason when I see this phrase I picture the sex scene between Peter Gallagher and Annette Benning in American Beauty.
Private Equity Sponsors: "You like getting nailed by The King?"
Public Equity Markets: "Yes! I love it! Oh, yes! Fuck me, your majesty!"
Is that wrong of me?
Then there is this sob story describing the sorry state Burger King faced when acquired by the brave and bold private equity sponsors:
Then in December 2002, Burger King Corporation was acquired by private equity funds controlled by Texas Pacific Group, Bain Capital Partners and the Goldman Sachs Funds, which we refer to as our sponsors. At the time of the acquisition, we faced significant challenges, including declining average restaurant sales which resulted in lower restaurant profits compared to our competitors. Additionally, the number of U.S. franchise restaurants was shrinking, many of our franchisees in the United States and Canada were in financial distress, our menu and marketing strategies did not resonate with customers, relationships with franchisees were strained and many of our restaurants had poor service.
In response to this pitch-soaked tinderbox of potential disaster?
The team quickly put in place a strategic plan, called the Go Forward Plan. The plan has four guiding principles: Grow Profitably (a market plan); Fund the Future (a financial plan); Fire-up the Guest (a product plan); and Working Together (a people plan).
Am I being arrogant if I wonder aloud if this is really the kind of work we should expect from primier private equity firms? Even if I give this prose a big rasberry it is hard to argue with this:
Guided by our Go Forward Plan and strong executive team leadership, our accomplishments include:
Eight consecutive quarters of positive comparable sales growth in the United States as compared to negative comparable sales growth in the previous seven consecutive quarters, our best comparable sales growth in a decade;
Increasing net income from $5 million in fiscal 2004 to $47 million in fiscal 2005, with EBITDA increasing by 65%, from $136 million in fiscal 2004 to $225 million in fiscal 2005.
Maybe campy prose is important to mega-LBOs. I was going to chide this deal as leaning mostly on financial structure for its gains, but that was before I saw these EBITDA figures. It occurs to be that perhaps we need a Vice President of Campy Prose here at Sub Rosa. Since this is an IPO I guess it plays well with the target audience.
What other changes can we expect?
Currently, 50% of Burger King restaurants are open later than 11:00 p.m., with 7% open 24 hours. Approximately 70-80% of the restaurants of our major competitors are open later than 11:00 p.m., with approximately 42% of McDonald’s restaurants open 24 hours. We have recently implemented a program to encourage franchisees to be open for extended hours, particularly at the drive-thru.
Of course the S-1/A mentions the $367 million special dividend paid in Feburary along with a $33 million "compensatory make-whole payment" and a $30 million termination fee for the sponsors' management contracts. The $33 million was used to compensate holders of restricted shares and options. Effectively, this was a senior management bonus. The rationale here was that the $367 million in special dividends would indirectly reduce value for any stakeholder not entitled to special dividend rights. $33 million was a payment on the same "per share" price ($3.42) to options and restricted share holders. You can't have a senior management mutiny on your hands right before the IPO, after all. Note that the Sealy special dividend did a similar thing. Sealy's CEO didn't leave the firm, however, right before the offering. Perhaps $3.42 a share wasn't enough for Burger King's former CEO? Or maybe the entire dividend rubbed him the wrong way.
The management contract with the sponsors was a $9 million a year paid quarterly arrangement. Terminating it nets them $30 million. I love the rationale given for this payment:
Our board concluded that it was in the best interests of the company to terminate these arrangements with the sponsors and the resulting payments upon becoming a publicly-traded company because the directors believed that these affiliated-party payments should not continue after this offering.
Oh, of course. I should have known this was the reason.
How were all these payments funded? Three guesses.
...we also borrowed an additional $350 million under our senior secured credit facility, all the proceeds of which were used to pay, along with $50 million of cash on hand, the February 2006 dividend and the compensatory make-whole payment. We refer to this financing as the February 2006 financing. We expect to use almost all of the net proceeds from this offering to repay the $350 million borrowed....
Interestingly, this "$50 million of cash on hand" becomes "$55 million of cash on hand" later on page 63. Woops. Sloppy work.
Their senior credit facility had an interesting feature to compute interest rate. I've seen it before but it tends to be rare. Specifically:
The interest rate under the senior secured credit facility for term loan A and the revolving credit facility is at our option either (a) the greater of the federal funds effective rate plus 0.50% and the prime rate, which we refer to as ABR, plus a rate not to exceed 0.75%, which varies according to our leverage ratio or (b) LIBOR plus a rate not to exceed 1.75%, which varies according to our leverage ratio.
So, the fun question is what kind of return will Texas Pacific Group pick up on this deal? Well, though the underwriters have the option of buying 3,750,000 shares of stock from the existing shareholders, none of the private equity holders seem to be parting with significant chunks of their shares. That makes the primary source of realized gains here the special dividend.
In December 2002, Burger King Acquisition Corporation slurped up Burger King's holding company from Diego, plc. After adjustments and expenses and other swaps, including transaction and professional fees (these last were $62.5 million) the total outlay was on the order of $1112.5 million. This is a quick and dirty calculation, I'm sure I've missed a thing or two.
A good guess (but by no means a certainly correct one) at the equity piece of the transaction is around $325 million. Assuming this is correct and that the private equity sponsors got pro-rata participation for their cash outlays, Texas Pacific Group put in around $110.5 million in equity for their 34.02% share. So how is TPG doing? Well, most interesting in my view compared to the Sealy deal, TPG already has an 12.38% realized IRR before selling a single share, thanks to the dividend, breakup and management fee.
As for the rest? My error-riddled model below: