Once again, Vipal Monga, the debt expert over at The Deal, scores with a review (subscription required) of dividend recapitalizations and leveraged initial public offering (LIPO) transactions data by Standard & Poor's. Results, well, not what one would expect on first glance- dismal credit and high default rates. Says Vipal of what the Standard & Poor's data says:
...the default rate for companies that underwent a dividend recap between 1995 and 2003 is 6%. That number compares with an 11% default rate for all companies bought by LBOs during the same period.
Why? Self-selection. Firms without the strong and consistent cash-flows to support the debt taken on in a recap/LIPO suction transaction don't get the loans to suction off a special dividend in the first place. It suggests that these transactions actually tend only to be possible (due, one assumes, to bank scrutiny) in firms that are more stable in the first place.
Though Monga doesn't say, one assumes that the 11% default rate for LBO defaults spans time frames from 3 years (2003-2006) to 11 years (1995-2006). Looking at Moody's study of rated debt defaults versus time we see that an 11% default rate over 11 years looks about like a solid "Ba" credit rating. A 6% default rate over 11 years creeps most of the way towards "Baa" territory. Looking at the 3 year boundary, the trend looks more like "B" to "Ba" (though we are mixing statistics a bit).
LIPO suction cases seem to come out of the gate with around a "B" rating (see BKC / J. Crew), suggesting that this might even be low given the statistics cited in the article. A quick look at the facts for leverage multiples would give us a better sense. Of course, Monga picks that up too, quoting Steven Miller to show that, at least when compared to other LBOs, recap / LIPO suction deals don't look that bad:
Steven Miller, managing director of the S&P Leveraged Commentary & Data unit, says companies that have been recapped actually have lower leverage multiples on average than traditional leveraged-buyout deals. According to LCD's numbers, the average leverage multiple of LBOs in 2004 was 4.85 times, compared with 4.39 times for those companies that were recapped. In 2005, the LBO multiple was 5.25 times, compared with 4.45 times for the recaps. So far this year, the LBO multiple is 5.39 times, with the recap multiple at 4.39 times.
