Asset transfer risk pricing

Private equity is renowned for its focus on the bottom line. Lenders lining up to tout their relationships need to bear this in mind when backing the biggest, most aggressive deals.  

It wasn’t criminal or common law fraud. That’s the best that can be said of the transfer of assets out of Caesars Entertainment Operating Company (CEOC) to other units controlled by its parent.

The court-appointed examiner’s report did, however, find that the parties disputing the transfers in the wake of CEOC’s bankruptcy have claims (of varying strength) for constructive fraudulent transfers, actual fraudulent transfers and breaches of fiduciary duty against the directors of CEOC, its parent CEC and the sponsors, Apollo and TPG.

Claims relating to the aiding and abetting the breach of fiduciary duty also exist against the sponsors and certain of CEC’s directors, concluded Richard Davis’s report which took almost a year to compile. He estimated damages could reach $3.6 billion-$5.1 billion.

CEC and CEOC directors deny that the findings are correct, as do Apollo and TPG. The battle, it seems, is far from over.

From the creditors’ point of view, the report was a victory and vindication of their fight to improve the outcome of the bankruptcy of CEOC.

But ignoring the future of Caesars Entertainment for a moment, from a wider lending perspective, it is both a welcome warning to aggressive sponsors that there is a line they cannot cross and a caution to lenders that they must protect their investment.

The lesson is sinking in. Bain and Thomas H Lee Partners bought iHeart Media for $25 billion in 2008. The group’s free cashflow just about covers the interest on its debt pile. The company has limped along but has large maturities looming. Recently the firm transferred a shareholding in another firm into a subsidiary. Senior creditors worried that the assets may now be out of their reach have disputed the action.

Properly drafted loan documentation should prevent this kind of situation, said a leveraged lending legal expert.

The lawyer is right, but ensuring that documentation is fully geared towards protecting creditors is difficult when the sponsors require lenders to use only law firms they approve to win the mandate, as industry sources have told PDI is common practice.

With the credit cycle on the turn, the lessons of Caesars are required now more than ever and if lenders really want to protect themselves, they should take a leaf out of the more aggressive sponsors’ books.