Can O&Y Escape?

Ever since Olympia & York Developments Ltd. disclosed in March that it would have to restructure upwards of $12 billion in debt, O&Y Chief Executive and chief strategist Paul Reichmann has clung stubbornly to the notion that his empire was simply too big to fail. And for a while, conventional wisdom was on his side. If the Toronto developer failed, the financial community worried, already slumping worldwide real estate values would sag even further. From Tokyo to London, banks would face such severe losses as to shake the world's financial system.

Yet two months later, that doomsday vision shows no sign of coming true. Besieged by creditors and unable to reach an agreement with its bankers, O&Y did what was considered unthinkable barely weeks ago. The company filed for protection from its creditors in Canadian court on May 14. At the same time, O&Y and four Canadian subsidiaries sought Chapter 11 shelter in the U.S. Reichmann and his brothers, Albert and Ralph, may soon have to seek similar protection for their empire's vast U.S. holdings and the Canary Wharf office development in London.

Aside from some minimal disruptions in the world stock markets, Olympia & York's filings caused more of a stir in daily papers than they did among banks and the rest of the financial community. Within days, markets around the world were bounding higher. There was even talk that O&Y's travails, while harmfulto the recovery in real estate prices, would have little immediate impact on the already woefully depressed market (page 28 26 ).

PLAYED-OUT CARDS? Now, as creditors and O&Y executives begin talks in Toronto, New York, and London to restructure the company's debt, analysts wonder whether the Reichmanns haven't already played their best cards. Now that the worst fears about O&Y have subsided, it may have little leverageremaining.

Instead, the banks appear to be holding the aces. In the weeks ahead, lenders will probably gain full access to O&Y's closely guarded balance sheet. Indeed, the Canadian court appointed an "information officer" from Price Waterhouse to ensure that the banks receive a full accounting. Bankers will also have far more influence on O&Y's operations. To many analysts, the question isn't whether banks will gain equity in O&Y but rather how much of a stake the banks will grant the Reichmanns. Some O&Y watchers even have begun to imagine O&Y's liquidation. Brian Neysmith, president of the Canadian Bond Rating Service, is one who thinks it may happen. He doubts the banks and O&Y will ever come to terms. "The chances are not good," he says.

In many ways, O&Y had little choice but to seek court protection. As defaults on its massive debts mounted, creditors closed in on O&Y's assets. A group of banks led by J. P. Morgan & Co., O&Y's own adviser, moved to seize collateral after O&Y defaulted on some swap commitments. The key threat would have come on May 15 in Toronto, where bondholders were preparing to seize First Canadian Place, the 72-story office tower that was Reichmann's first trophy project. Both the Reichmanns and their lenders were frightened that a mad scramble by the more unruly of the company's many creditors would ensue.

Ironically, O&Y's global reach, which supposedly made it too big to fail, has muted the impact of money troubles. Even though O&Y represents the biggest private debt restructuring ever undertaken, the sheer number of its banks--91 in all--has spared any single lender from a life-threatening exposure. Even among Canada's six banks, which have lent the Toronto developer some $2.5 billion, the impact is manageable. As a result, O&Y's protracted problems pose less of a threat to Canada's economy than previously thought. "I don't see it as having profound implications at all," says Lloyd C. Atkinson, chief economist at the Bank of Montreal.

Similarly, in Japan, O&Y's tribulations haven't caused much of a ripple in the already beleaguered banking community. Japanese banks are believed to have upwards of $2.8 billion worth of O&Y loans on their books, but that pales in comparison to the $154 billion in bad loans that Salomon Brothers Asia Ltd. figures that Tokyo bankers already have on their books. "It may be more than a drop in the bucket," says analyst Alicia Ogawa of S.G. Warburg Securities (Japan) Inc. "But it's not more than two."

BRAVE FRONT. Outside Japan, many banks have built a cushion against an O&Y default. Citicorp, for example, has already written off $100 million of its loans to O&Y and classified much of its remaining $380 million in O&Y loans as nonperforming. "It doesn't look like a major difficulty," says a senior official at the Federal Reserve. "I think we've escaped in pretty good shape."

That leaves O&Y in a precarious position as it tries to stretch out debt payments and arrange new loans. O&Y executives still sound brave. "This is not a liquidation or the end of O&Y," says Gerald Greenwald, a former Chrysler Corp. vice-chairman and now O&Y's new president. Maybe not. But O&Y now is in no position to dictate terms.

The first sign of the banks' tougher negotiating posture could emerge in London. O&Y got a boost from hints by the British government that it may move 2,000 civil servants to Canary Wharf. But O&Y will still have a hard time persuading the banks to lend $550 million to finish the first phase of the project and make a downpayment on O&Y's share of the cost of building the Jubilee Line, the badly needed subway extension to Canary Wharf. "We're at a point now where the project is about to turn," says Michael Dennis, Canary Wharf's CEO.

The question, though, is who will own Canary Wharf at the end of the day? Bankers aren't likely to accept O&Y's offer of a straight 30% stake. Instead, they may turn the tables, offering O&Y equity on a sliding scale, dependent on the developer's performance. But even if O&Y wins a majority stake, it will be years, if ever, before Canary Wharf reaches the size O&Y had envisioned.

Bankers also take a dim view of O&Y's other proposal, offering banks a 20% stake in the parent company in Canada in return for debt restructuring. "This plan won't be acceptable," predicts Alain Tuchmaier, an analyst at McLean McCarthy Inc., a Toronto brokerage firm, "because it doesn't offer enough concessions." Under Canadian law, O&Y will have to win approval from holders of three-fourths of its debt. If they refuse, O&Y would essentially be finished. The court has asked the company to submit a plan by July 13 and set an Oct. 21 deadline for approval, though that could be extended.

Meanwhile, Olympia & York faces a struggle to keep its vast U.S. property holdings out of Chapter 11. The Reichmanns' New York trophies, such as the World Financial Center, aren't covered by the May 14 filings. Because those properties are the healthiest of O&Y's major operations, Greenwald argues "they should be able to work through their problems with the cooperation of their lenders." That may be asking too much. On May 19, O&Y told holders of $548 million in debt issued against 55 Water Street in Manhattan that it couldn't meet interest payments. And there are worries that O&Y this summer will default on its tax payments to New York City.

To be sure, few creditors are eager to take possession of O&Y's massive holdings if it means selling them in today's market. But while O&Y should manage to escape liquidation for now, it will be "drastically shrunken," predicts Tuchmaier. Eventually, workout specialists believe that banks will lay claim to much of the equity in O&Y's properties in New York and Toronto.

In exchange for O&Y's survival, creditors are also likely to demand that Olympia & York sell most of its $2.6 billion stock portfolio (table, page 26), which includes controlling stakes in Gulf Canada Resources and Abitibi-Price Inc., the world's largest newsprint company. The company already has plans to sell its 18% stake in Santa Fe Pacific Corp.The Reichmanns won't disappear. The banks probably would prefer to have them manage the properties. But O&Y's standing as the world's premier developer is history. So is any notion that Paul Reichmann's empire is too big to fail.

                                   1990 value    Current value
           Company      Stake          Millions of dollars
       GULF CANADA        75 %     $1,360          $894
       ABITIBI-PRICE      82          707           707
       TRIZEC             35          711           266
       SANTA FE PACIFIC*  18          237           389
       CATELLUS           15           95            71
       SANTA FE ENERGY    15          135            79
       GW UTILITIES**     89          780           190
       TOTALS                       4,200 ***     2,600 ***
       *O&Y is in negotiations to sell this holding  **GW is now selling
       Home Oil Co., its major asset. Following that, it plans to go private
       ***Including small holdings not listed here
      O&Y has pledged much of its stock holdings as collateral for real estate loans. 
      If the developer can't reach a debt agreement with its lenders, banks may claim 
      these shares
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