Tech Firms Seek to Lever Up in a Debt Market That Hates Disruption

  • Companies have borrowed more than $105 billion this year
  • Investors assess how future changes would challenge industry

An M&A frenzy in the tech world is creating a dilemma for investors already being asked to fund a record volume of deals elsewhere: how much to lend to an industry that’s constantly changing.

Western Digital Corp. is the latest to join the fray with its plans to purchase SanDisk Corp. in a deal to be funded by about $17 billion of new debt. That comes alongside Lam Research Corp.’s $10.6 billion pact to acquire KLA-Tencor Corp. and on the heels of Dell Inc.’s $67 billion bid for EMC Corp., the largest technology acquisition ever.

Tech companies have already raised more than $105 billion of debt across investment-grade and high-yield markets in the U.S., a record, according to data compiled by Bloomberg. Given the amount of debt that will be needed to complete the recent deals -- at a time when creditors are already wary about slowing global growth -- investors interviewed said they’re likely to demand a premium to lend in an industry prone to disruption.

"Obviously technology can change pretty quickly,” said Michael Sohr, a money manager at AllianceBernstein Holding LP in New York. “It’s going to depend on how comfortable one can get with the obsolescence factor and the challenges that may surface."

The industry has never been a big player in the corporate bond market. Tech-company debt now makes up about 5 percent of the outstanding company bonds in the U.S., according to data from Bank of America Merrill Lynch indexes. That’s double what it was a decade ago. The companies’ bonds have outperformed the broader market, Bank of America Merrill Lynch index data show.

Protections, Compensation

The amount of supply investors are going to be asked to absorb to fund announced deals could hurt borrowers’ chances of securing attractive pricing and companies that want longer-term paper may have to pay up, said Matthew Duch, a money manager at Calvert Investments.

"As a bondholder you want to get as many protections and as much compensation as you can -- as well as a maturity that you’re comfortable with given business projections," Duch said.

One deal some analysts are more confident about is Western Digital, which plans to raise a mix of debt including loans held by bank and institutional lenders, and secured and unsecured bonds. While the combined company is likely to be rated junk, the hard-drive maker will aim to get back its investment-grade status three to five years after closing the deal in 2016, Chief Financial Officer Olivier Leonetti said on a call to discuss the acquisition.

"You usually become a high-yield tech name because you are facing some sort of disruption in your industry and you need to do something to fix it,” Anthony Venturino, an analyst at Federated Investors Inc. said. “This, relative to all of the other stories, is not as bad."

Dell’s Plan

Semiconductor company Lam Research is aiming to finance its deal with about $3.9 billion of debt, with plans to hold on to its investment-grade credit rating, it has said. The Fremont, California-based company is expecting to pay close to 4 percent for its debt, according to Chief Financial Officer Douglas Bettinger.

All of this debt would be in addition to Dell’s plan to arrange almost $50 billion in borrowings to purchase EMC. A Dell-EMC merger may push total debt to about 5 times a measure of its earnings, which would put it more in line with a single-B rated company, according to a Bloomberg Intelligence report. That compares with the double-B rating that Dell commands and single-A for EMC, the larger of the two.

Founder Michael Dell sees “pretty rapid” debt reduction in the next 18 to 24 months, he said in an interview with Bloomberg Television on Wednesday. The deal will help the personal-computer maker broaden its product lineup in response to threats from rivals including Hewlett-Packard Co. “We become a leader,” Dell said. “This is a very powerful combination.”

Dog Years

Dell’s acquisition leads more than $100 billion of mergers and acquisitions announced in the past month, the busiest quarter on record for tech deals, according to data compiled by Bloomberg, at a time when investors and analysts are bracing for a shift in the credit cycle.

For credit investors, that means weighing up returns against an uncertain outlook.

"For certain sectors, it is useful to consider time in terms of dog years as opposed to the years we mark on our Gregorian calendar," said Christian Hoffmann, a Santa Fe, New Mexico-based money manager at Thornburg Investment Management Inc., which oversees about $58 billion in assets. Some Internet and technology companies “come to mind as places where the rate of change can be rapid and longer term visibility can be low," he said.

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