KKR’s First Data Stokes Bond Optimism With IPO Talk: Distressed

First Data Corp., the payment processor that isn’t earning enough money to reduce its $23 billion debt load from a 2007 buyout, is raising optimism among bondholders that it will sell shares to cut leverage.

Chief Financial Officer Ray Winborne said on a conference call with investors Feb. 5 that earnings alone probably won’t be enough to reduce leverage, making an equity offering “the most likely path” while adding that markets are “about as hot as they get right now” for such deals. Prices of the company’s bonds have increased an average 1.9 percent since then, more than double the gain for similarly rated debt.

First Data’s bonds have been trading in and out of distressed levels since KKR & Co. layered $20 billion of debt onto the Atlanta-based company in a buyout more than six years ago. While the company has been able to refinance and push back maturities to at least 2017, it’s been unable to reduce its obligations with annual interest expense consuming more than 75 percent of cash flow.

An eventual initial public offering “is currently broadly anticipated by the market,” said Mark Menapace, an analyst at Neuberger Berman Group LLC, which oversees $242 billion and owns First Data bonds. “This is a real attractive business that’s benefiting from some nice secular tailwinds in terms of a global shift toward electronic payments. I think we can say with some conviction that this company is around for the long haul.”

IPO Chances

Boosting adjusted earnings before interest, taxes, depreciation and amortization closer to $3 billion from $2.45 billion last year may increase the chances of an IPO, according to Michael Jacobs, First Data’s treasurer. The measure of cash flow increased by only 1 percent from 2012, First Data said in a Feb. 5 earnings release.

“If $3 billion was in our line of sight or achievable in a certain amount of time, then we might come out to the market at that particular time,” Jacobs said in a telephone interview. “We have no plans at this point in time, but obviously it is our stated goal to de-lever in that fashion.”

The extra yield investors demand to hold the company’s bonds rather than Treasuries has narrowed 60 basis points since Feb. 4 to 656 basis points as of Feb. 12, according to Bank of America Merrill Lynch index data. The average spread on U.S. notes ranked within and below the CCC rating tier declined 34 basis points, or 0.34 percentage point, to 754 in the same period.

2007 Buyout

First Data’s unsecured debt has a Bloomberg Composite rating of CCC+. That level of debt is “subject to very high credit risk,” according to Moody’s Investors Service.

While the company has failed to report a profit in the 25 periods since being taken private, according to data compiled by Bloomberg, it’s refinanced all the debt that originated in its 2007 LBO, including more than $4 billion last year, Winborne said on the conference call with analysts and investors to discuss fourth-quarter earnings.

That’s helped postpone obligations maturing through 2016, an obstacle that exceeded $5.8 billion at the end of 2012, Bloomberg data show.

“Their ability to push that next maturity back to 2017 was big,” said Brian Gilbert, a money manager at Advisors Asset Management Inc. in Monument, Colorado. The firm oversees about $13 billion including First Data bonds. The security prices reflect confidence an IPO can take place before 2017, he said.

Distressed Debt

The company’s $3 billion of 12.625 percent notes due 2021 traded at 118 cents on the dollar yesterday to yield 9 percent, having increased almost 2 cents since First Data reported earnings. That’s an option-adjusted spread of 683 basis points, in from 1,004 basis points in June, which exceeded the 1,000 basis-point threshold for bonds generally considered distressed.

The extra yield narrowed to 679.3 basis points at 11:07 a.m. in New York. The average yield on $1.3 trillion of U.S. high-yield, high risk bonds tracked by Bank of America Merrill Lynch was 6.27 percent yesterday.

First Data, which processes payments for retailers, financial institutions and credit-card issuers, is betting new products including a mobile marketing and consumer loyalty tool and expansion into countries such as Brazil will help bolster its $10.8 billion in consolidated revenue for 2013 and end a string of losses that widened 24 percent to $869 million.

Annual Losses

That capped six straight years of annual losses since KKR, the New York-based private-equity firm founded by Henry R. Kravis and George R. Roberts, took the company private just before the financial crisis took hold, leading to a pullback in consumer spending. The purchase was funded by debt and $6.4 billion of common equity contributed by KKR, according to an October 2007 report from Moody’s Investors Service. The buyout firm boosted its investment by $300 million last year.

Kristi Huller, a spokeswoman at KKR, declined to comment on the firm’s investment.

While 2014 will probably “look much like last year with pockets of modest growth” amid continued weak consumer spending, “the biggest upside surprise could be from the announcement of an IPO, which would solve a great many of our concerns,” Scott Dinsdale, an analyst at KDP Investment Advisors Inc., wrote in a Feb. 6 report. “Leverage has always been our biggest concern,” and it will continue to hobble competitiveness until a stock sale becomes a reality, Dinsdale wrote.

‘Hot’ Market

First Data’s debt exceeds Ebitda by almost 10 times, according to KDP. That compares with a median leverage ratio of 1.34 for technology companies in the Standard & Poor’s 500 index with more than $1 billion of debt, Bloomberg data show.

With annual interest expense at about $1.9 billion, reducing that measure likely depends on tapping a U.S. IPO market that supplied companies with $56 billion last year, the most since 2007, Bloomberg data show.

Though “the IPO market is about as hot as it has been in the last decade,” it’s unclear how long the window to sell stock will remain open, Dave Novosel, an analyst at Chicago-based Gimme Credit LLC who recommends selling First Data bonds, wrote in a Feb. 10 report. The likelihood of “meaningful improvement” in revenue and margins isn’t very good, and another economic downturn could push leverage higher and reduce the chances of an IPO, he wrote.

Economists surveyed by Bloomberg aren’t forecasting another recession through at least 2015, with real economic growth estimated to reach 2.9 percent this year before climbing to 3 percent. That would mark the fastest pace of expansion since at least 2006, Bloomberg data show, and potentially leave First Data better positioned to follow through with its plans.

“The fact that it’s a discussion at this point is a good thing,” Michael Drexler, a high-yield credit strategist at Canaccord Genuity Inc. in New York, said in a telephone interview. “The home run would be them getting an IPO done relatively soon. It’s really just a matter of how quickly they can get the growth story going.”

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