The owners of a massive €3.5bn pile of debt secured on a German retail portfolio have agreed an extension of the loans, which they hope will buy time to save tenant Karstadt from value-destroying liquidation. The debt owners include Fleet Street Finance Two: a €1.13bn, single-borrower four-tranche, CMBS deal. The restructuring, voted through by bond holders at the end of last month, is significant not just for it size and complexity, but because it extends the maturity of the notes, as well as the loan, for the first time in a CMBS.
The bond holders were in the driving seat when it came to restructuring the debt, secured on the High street portfolio. The passengers, who also had to agree the restructuring, were German bank Valovis, owner of the rest of the senior debt secured on the mainly department store properties, and 23 owners of €1.4bn of mezzanine debt (see diagram below).
The restructuring was precipitated last summer when Karstadt’s parent company, Arcandor, filed for insolvency. Arcandor and its retail subsidiaries, Primondo and Quelle, are in the process of being liquidated. But the insolvency receiver is mandated by creditors to try to save loss-making Karstadt and sell the business.
The receiver had asked all stakeholders to agree a restructuring to stabilise the landlord as part of its attempt to sell Karstadt. To this end, the receiver wanted concessions on rent, but crucially, also an extension on the debt to give both Karstadt and the property market time to recover.
Another unusual aspect of this restructuring is that the borrower approached the bond holders directly to negotiate. The High street equity consortium was led by Goldman Sachs and RREEF, which appointed debt adviser Cairn Capital in October.
Concessions to be had
Some CMBS experts suggest that the bond holders could have won more concessions than the 52bps extra margin across all classes, and given away less, if they had negotiated directly with the receiver, or at least via servicer Capita.
They certainly didn’t get much compared with the carrot offered to bond holders in the Centre Parcs restructuring proposed this month (see news), although the circumstances of the two deals are totally different. Cairn Capital director David Henriques agrees that with the threat of Karstadt’s liquidation hanging over bond holders, this was a restructuring achieved more by stick than carrot.
As part of the restructuring negotiations, Cushman & Wakefield valued High street portfolio B, the properties securing Fleet Street, at €1.57bn with a tenant, but €713.2m if they were empty (the initial valuation at issue in October 2006 was €1.7bn). That implied loss would wipe out the equity, mezzanine, and three out of the four securitised senior classes in the deal, and would break in class A.
But Henriques rejects the idea that bond holders were not given every chance to negotiate. “This really wasn’t take it or leave it: we had eight weeks of incredibly intensive negotiation,” he says. Cairn contacted a majority of the 50 bond holders. “We found a high percentage, then set up an informal steering committee of 17 key bond holders across all the classes, so there was a counterparty to negotiate with,” says Peter Hansell, Cairn’s head of real estate. “That steering group, encouraged by Cairn, took its own financial and legal advice, enabling more focused negotiation between two financial advisers acting for a broader group of clients.
“To try and negotiate against 50 bond holders individually is an impossible task,” Hansell adds. “We refined it to people who perhaps have a greater economic interest in the deal, but are respected by their counterparties across the capital structure. “They are not making decisions on behalf of the bond-holder base, but are doing the work everybody else would need to do to feel comfortable with the deal. Then, having reached agreement with that steering committee, we were in a position to launch a deal we knew made commercial sense for the majority of bond holders.”
The bond holders included State Street Bank, which has a large holding in class A, UBS, HSBC, Fortress and Prudential. Goldman Sachs had accumulated about 10% of each class, as well as being a large holder of the mezzanine element. “There were sleepless nights when we thought: ‘we’re not going to get this’, even at the start of February, when we launched the EGM,” Henriques recalls. Hansell adds: “We were still negotiating the last points 24 hours later than we should have been and literally half an hour before the launch.” The restructuring proposal had to receive 100% approval from the mezzanine and senior A loan lenders and a majority from the bond holders. In the end, only two class A bond holders voted against the proposal.
Cairn says it was clear from the start that the notes as well as the loan needed to be extended to protect the bonds’ ratings. Says Henriques: “The only way to stabilise the landlord was to extend the loan. If we had only extended the loan into the tail [the three-year period of the notes beyond the loan maturity] it would have blown the ratings totally.” Previously, bonds’ fixed term had been considered just that: fixed. But the gamble paid off. CMBS analysts at Citigroup Global Markets said after the vote: “Dollar pricing for classes A and B firmed up to the low 70s and high 50s respectively.” They added: “Despite the unique insolvency circumstances, this could be a model for the rest of the market when it is in the best interest of all bond holders to have more time to work out issues.”
No downgrades for bonds
Rating agencies Fitch and Moody’s were convinced that the restructuring did not amount to a “coercive debt exchange” and did not downgrade the bonds, although Standard & Poor’s has not backed it. Henriques says: “I think this is the first time a CMBS has been restructured with no comfort around the ratings, but once bond holders are worrying about principal loss, then the ratings, while important, become a secondary concern. “By contrast, we also advised on restructuring Hercules Unit Trust, and there is no way we’d have got that done if we’d done anything resulting in a downgrade. That’s the difference between a deal where you’ve got potential principal loss and one where you don’t.”
In a note this month titled Recent trends in European CMBS servicing, securitisation lawyers Charles Roberts and Conor Downey of Paul Hastings said the Fleet Street deal may suggest “that CMBS restructurings will be easiest when risks to value are so great that every class of bond are at risk”. Yet everything – not least whether Goldman Sachs’ equity will ever ‘come back into the money’ – still hangs on whether the receiver can sell the business. US private equity group Apollo has been tipped as a potential buyer, but there have been other recent German department store insolvencies, including Hertie, Sinn Leffers, Woolworth and Wehmeyer. This restructuring is not the end of the story.
Fleet Street’s latest edition
Cairn’s Peter Hansell says the changes to Fleet Street Finance 2 “are all pretty positive: keeping the lease in place, trapping the cash; and hyper-amortising the deal”. The loan maturity is extended from July 2011 to July 2014 and the 70% loan-to-value ratio relaxed to 90% until next year, after which it gradually falls to 75% by 2014. The notes are extended from July 2014 to July 2017 and the margin paid on all four classes of bonds rises 52 basis points. All cash is trapped to pay off the CMBS loan, rather than paying down the mezzanine loan, while the €135m rent is cut by €38m over five years, in return for a five-year extension on most stores’ leases.
A monster deal backed by multiple lenders and properties
In the heady days of October 2006, Goldman Sachs showed it was master of the property – and principal finance – universe by pulling off one of Europe’s biggest ever real estate deals. For its Whitehall Funds private equity real estate business, the US bank structured the Highstreet deal, a €4.5bn sale and leaseback involving 157 mainly retail assets, totalling over 7m sq ft, and €3.5bn of debt. The debt had three elements: €1.4bn of mezzanine lending, split into three tranches and secured on the whole portfolio; and two senior loans, secured on two different property portfolios.
The senior A debt was an €890m un-securitised loan by German bank Valovis, underpinned by 48 properties, including 34 department stores and four sports stores; while Fleet Street Finance 2 was a €1.9bn (at issuance) CMBS deal originally secured by 109 properties let to Karstadt and Quelle. This later shrank to 99 properties, including 45 department stores and five sports stores. Whitehall had 51% of the equity, with the remaining 49% owned by a consortium led by Deutsche Bank’s RREEF funds. One adviser on the restructuring calls the €32m fees racked up “obscene”. As well as Cairn Capital, Lazard was appointed (also by Goldman Sachs) to advise on the mezzanine element; Leonardo advised the senior A bank; Moelis acted for the bond holders; while nine other law firms also advised. The borrowers paid €20m of the costs.