At first sight, the financing for Apollo Global Management Inc.’s acquisition of a suburban phone and internet provider looks like a textbook leveraged buyout: one part equity, two parts debt.
(Bloomberg) — At first sight, the financing for Apollo Global Management Inc.’s acquisition of a suburban phone and internet provider looks like a textbook leveraged buyout: one part equity, two parts debt.
But look a little closer and you’ll notice something odd: most of the equity check is debt as well.
Over 60% of the $3 billion equity commitment that Apollo has agreed to pay to acquire telecom and broadband assets from Lumen Technologies Inc. — which will be run under the Brightspeed brand — will come from a five-year loan provided by banks, according to a person with knowledge of the matter and debt documents reviewed by Bloomberg.
The $1.9 billion loan is separate from the $6.3 billion of debt that Apollo also plans to use to finance the acquisition — part of which bank underwriters are now trying to sell to investors. The loan is issued by a holding company that benefits from no guarantees or security from Brightspeed’s operating assets. And it is Apollo, rather than Brightspeed, that’s expected to pay the principal and interest, according to reports from credit-rating firms.
It’s an example of the many types of backleverage — or debt that’s incurred on an equity investment — that have become increasingly popular among private equity firms. The arrangements, which can be specific to an individual investment or apply to entire funds or portfolios, can be used to boost returns, increase liquidity or monetize equity stakes.
Because the banks providing the financing have a claim on the equity commitment from the Apollo fund that’s investing in Brightspeed, the facility charges a much lower interest rate than what the telecom company is expected to pay on its own debt, said the person, who asked not to be named when discussing confidential deal terms.
Representatives for Apollo and Brightspeed declined to comment, while Lumen didn’t respond to requests seeking comment.
Cash Drag
Relying on borrowed funds rather than drawing the entire $3 billion from its investors will allow Apollo to provide Brightspeed with much-needed cash to upgrade its network to fiber optic cable while limiting the negative effect that such a large outlay would have on the fund’s internal rate of return — a closely watched measure of performance for private equity investments. Brightspeed is expected to have nearly $1.5 billion of cash at closing, according to the deal documents.
In addition to the $3 billion contribution from Apollo, the $6.3 billion of debt that will be layered onto Brightspeed’s balance sheet includes a $1 billion term loan that banks will keep on their books, $3.9 billion of new loans and bonds that are being syndicated to investors, and $1.4 billion of existing notes that will remain in place.
Read more: Citrix Debt Debacle Heralds a Day of Reckoning on Wall Street
The syndication of the bonds and loans, which formally kicked off earlier this month, is one of the most closely watched transactions in credit markets, which have been rattled by rampant inflation, recession fears and geopolitical instability this year.
A drop in risk appetite among investors has already forced Wall Street banks to offload chunks of debt for the buyout of Citrix Systems Inc., which is expected to close this week, at steep discounts, and to keep nearly half of it on their books.
Complicating matters further, some holders of the bonds that are expected to remain outstanding as part of Apollo’s Brightspeed acquisition have claimed that the new financing would put one of the company’s subsidiaries in default by violating terms of the existing debt agreements, Bloomberg has reported.
PIK Option
Apollo has the option to service the five-year loan in kind, which involves paying interest in additional principal, the debt documents show. The private equity firm can voluntarily repay the loan at a premium during the first year, and with no premium or penalty thereafter.
S&P Global Ratings points out there are few restrictions on Apollo’s ability to upstream cash from the operating company to the holding company to repay the loan.
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