Analysing Point A – Capital Structure & Credit Support
Imagine you are going on a journey. You’ve packed your bags, filled up the tank with gas, you’ve got the Satnav fired up and you know where you’re headed – let’s say it’s Orlando, Florida (this is Point B).
How do you get to Orlando? Well, that depends entirely on where you’re travelling from – that is Point A.
The same is true for covenant analysis. Before you embark on any covenant analysis journey for any given deal, you need to know where you’re starting out from before you can analyse where things might be headed.
This is true regardless of whether the Point B is an analysis of Debt and Liens, or Restricted Payments and Asset Sales. Before you dive into the covenants themselves, you’ve got to dig into the capital structure chart and description of the credit support.
That’s Point A.
The capital structure chart contains a wealth of information– you just have to read some very tiny text to get some useful details out of the footnotes. For the capital structure analysis, note the following:
- Size of the equity cheque (in an LBO)
- Other debt in the capital structure
- Priority vis-à-vis your debt (junior, pari passu, senior)
- Entities “in the box” vs. outside (e.g., joint ventures, Unrestricted Subsidiaries)
The description of the credit support will give you the other pieces of the puzzle to Point A. From the summary of the security and guarantees, note the following:
- Nature of the collateral – is it soft (share pledges, intercompany loans, receivables, IP) or hard (real estate, inventory)?
- What else does the company own that isn’t part of your collateral (unencumbered assets)
- Guarantor coverage (as a percentage of total assets, EBITDA, revenue)
- Existing debt of non-guarantors
With these facts gathered, you’ll have a solid sense of Point A, and you’ll be ready to make your way to Orlando – an assessment of the potential distance from Point A to Point B is now possible.
So, buckle your seat belt and put on your sunglasses…and stay tuned for next week’s FLT blog where I’ll describe the route to Point B for the Debt and Liens covenant analysis.