Lite Loans May Sideline Lenders in U.S. Downturn

By Jonathan Keehner

NEW YORK, Jan 24 (Reuters) - While a U.S. recession would be badnews for a company burdened by debt after its leveraged buyout, a
downturn would be worse for those that loaned the money.
That's because many LBOs, struck when markets were sloshing with
liquidity, provide few protections for lenders like hedge funds and
banks.

"A lot of bankers and financial advisors are probably having to sit
back and watch in a frustrated way as companies deteriorate, but not so
rapidly that the companies breach whatever minimal covenants there are,"
said Patrick Daniello, JPMorgan <JPM.N> managing director, special
credits.

At the same time, underwriters of LBO loans are having an
increasingly difficult time selling the debt.
The buyout wave that peaked last year was fueled in part by
"covenant lite" loans, which carry less protection through control
mechanisms or default triggers that measure a company's liquidity. This
could leave lenders with their hands tied if cash flow dwindles at newly
private companies.

"Deals that were structured in recent years had loose-to-nonexistent
covenant packages," said Brian Trust, a partner at law firm Mayer Brown
LLP who works on bankruptcies and restructurings. "In a transaction with
light triggers, the lender initially bears more risk."
According to Reuters Loan Pricing Corp, more than $300 billion of
LBO loans have been issued since the beginning of 2006 -- more than the
prior 10 years combined.

GUN-SHY LENDERS
Now lenders are balking at the kind of deals they embraced during
the buyout boom. One example is more than $2 billion in loans being
offered this month to back the LBO of computer retailer CDW Corp by
Madison Dearborn Partners and Providence Equity Partners, according to
RLPC.

There is concern about that loan's sole financial covenant and over
whether CDW can adequately service a debt load of about eight times cash
flow, according to investors who spoke to RLPC on the condition of
anonymity.

CDW did not return a call about the loan, which is being offered at
a discount price of 96 cents on the dollar, according to RLPC. Market
sources say the discount will have to be increased in order to sell the
loan in this market.

It's too soon to determine the exact level of interest in the CDW
loan, which may otherwise sit with Lehman Brothers <LEH.N> and other
underwriters. But as secondary prices of loans that financed LBOs of
companies such as Alltel Corp and TXU Corp weaken across the board, the
task of selling new debt is becoming increasingly difficult, according
to RLPC.

Lehman also did not return a call about the CDW loan.

BUSY YEAR FOR RESTRUCTURING
One issue with LBO loans is a company's total debt, which averaged
more than six times cash flow in 2007, up from just above four times in
2003, according to RLPC. And for LBO loans issued in 2007, more than $40
billion were covenant lite, from under $7 billion in 2006.
Those covenant lite loans may afford lenders little control or
information if a company falls into distress -- an increasingly likely
prospect for those burdened by high interest payments if the U.S.
economy slips into recession.

This concerns LBO lenders as well as private equity firms
themselves, which are preparing the buyouts they sponsored for tough
times ahead.

"Sponsors we talk to today are very focused on their portfolio
companies," said Steven Smith, joint global head of leveraged finance at
UBS <UBSN.VX>. "If we do have the recession that's being discussed,
there is no doubt that a certain number of deals will underperform."
Inquiries to Loughlin Meghji + Co, which advises on restructurings
such as cost-cutting efforts, have more than doubled from a year ago,
according to co-founder Mohsin Meghji.

"We have been getting calls from private equity sponsors looking for
help with their portfolio companies," said Meghji, who identified
housing and related industries as areas of focus.

That means it could be a busy year for restructuring LBOs: More than
$30 billion of construction and property-related buyouts were announced
in 2007, according to data provider Dealogic. In 2005, that figure was
below $1 billion.

(Additional reporting by Faris Khan; Editing by Lisa Von Ahn)
((jonathan.keehner@reuters.com; 1 646 223 6128))
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