Like so many other bootstrap entrepreneurs of the Eighties, William F. Farley was a creature of Drexel's mighty junk-bond juggernaut. He began the decade as a little-known Chicago financier, head of Farley Industries Inc., with a mere $19.6 million in annual sales. Aided by Drexel Burnham Lambert Inc., Farley burst into the big time in 1985. He sold enough junk to finance such deals as the $2 billion purchase of Northwest Industries, parent of underwear maker Fruit of the Loom, and a $3 billion takeover bid for West Point-Pepperell, the large apparel concern. At the height of his glory in 1988, Farley even toyed with running for President.
Now, Farley has nothing to run for but help. Drexel is in Chapter 11, and the junk market is in the doldrums. Farley's big debt problems are well known. What isn't well known is that he may end up losing most or all of his empire.
On Feb. 15, Farley defaulted on an estimated $13 million interest payment on Farley Inc. bonds. And he hasn't paid principal or interest on more than $1.6 billion in debt for the yet-to-be-completed West Point deal. What's more, his grip on Fruit of the Loom is slipping--perhaps into the hands of his onetime takeover adviser, former Drexel investment banker Leon Black.
The most immediate crisis is the debt for Farley Inc., now his holding company. The bondholders can force it into bankruptcy court 30 days after the missed Feb. 15 payment. The 48-year-old Farley, who is currently conducting marathon restructuring negotiations with bondholders, is expected to ask them to swap their Farley Inc. paper for payment-in-kind bonds, which would ease his interest problems by paying out in additional bonds instead of cash. He also may pledge them a cut in proceeds from any asset sales.
Odds are, though, that the bondholders won't go for the swap. To pay them off and keep Farley Inc. out of Chapter 11, he may have to sell a chunk of his prized and most valuable asset: Fruit of the Loom, whose T-shirts the fit-looking Farley has modeled in ads. "He's up against the wall on this one," says a source close to the talks.
CASH POOR. Farley's basic problem, not surprisingly, is cash. In the first half of 1990, the last time Farley Inc. reported its results, earnings covered only 70% of its interest expenses. Cash flow was a negative $51 million, which would have been much worse if not for asset sales of $575 million. The situation hasn't improved since then, according to sources close to him. The market has reacted by sending Farley Inc. bonds into a free-fall (chart).
Farley's cash dearth is behind his inability to complete the West Point deal. He has 95% of the stock, but he can't get access to the company's cash flow to pay interest until he gets 100%. Yet he hasn't been able to raise the $83 million needed to pick up the last 5%. Meanwhile, the accumulated unpaid principal and interest tab on his $1.6 billion acquisition debt now tops $200 million. Although Farley has legally insulated Farley Inc. from West Point's liabilities, West Point creditors might eventually go after Farley's stake. But they have taken no action so far.
It's an exquisite irony that the biggest beneficiary of Farley's troubles may be the man who helped get him into this fix: Leon Black. In 1988, Black, then at Drexel, helped create the plan to float $500 million of Farley Inc. bonds for an acquisition war chest. Black is now sitting on his own buyout cache of some $800 million, half of it from French banking giant Credit Lyonnais.
Black clearly sees Fruit as a ripe opportunity. Last August, when Farley needed money to make an interest payment, Black bought 3.75 million shares, a 6% stake in Fruit, from Farley for $43 million. Both deal mavens declined interview requests with BUSINESS WEEK.
Black's agreement with Farley puts him in a propitious position. Farley may be forced to sell shares to raise the money to appease Farley Inc. bondholders--and this could conceivably permit Black to wrest control of Fruit, 49.5% of whose voting control is now in public hands. The ex-Drexelite has the right of first refusal on any Fruit stock Farley seeks to part with. Further, without spending a penny, Black stands to watch his Fruit holdings rise to 10% in coming months. Reason: Farley promised to buy back Black's Fruit shares for $58 million in June or, if he can't make that date, $72 million by December. Few people close to the deal believe Farley will be able to come up with the money on either date. If he can't, according to the agreement, Farley will have to give Black 2.5 million more Fruit shares, which Farley put up as collateral in August.
Another irony for Farley is that this crunch is coming just as Fruit is hitting its post-takeover stride. The apparel maker's earnings per share in 1990 were up 8~, to $1.25. Making a surprise appearance before a textile analysts' meeting at historic Fraunces Tavern Restaurant in New York in January, Farley boasted that Fruit's performance will speed the day when it will pay a dividend. Fraunces Tavern is where George Washington bade farewell to his faithful troops. Farley can only hope that he soon doesn't have to do the same to his beleaguered empire.