Cheap Financing Of Dogs Not Entirely Positive News

I for one was heartened a few weeks ago by Petco’s PIK-toggle dividend recap debt deal at 8.5%, which I interpreted as a moderately bullish signal of economic confidence while also keeping an open mind to the possibility that it was simply a one-off indication of investor love for dogs. Dogs! Today the Journal provides additional similar data points and the recovery seems to go beyond the pet-supply sector:

Debt issued to fund private-equity dividends has topped $54 billion this year, after a flurry of deals earlier this month, according to Standard & Poor’s Capital IQ LCD data service. That is already higher than the record $40.5 billion reached in all of 2010, when credit markets reopened after the crisis.

Also some of these deals involve a risky type of debt known as “payment in kind toggle”—or PIK-toggle—bonds that give companies the choice to defer interest payments to investors. Instead, they could opt to add more debt to the balance sheet. The default rate for companies that sold PIK-toggle bonds was 13% from 2006 to 2010, twice the default rate for comparably rated companies that didn’t use the bonds, according to a study by Moody’s Investors Service.

If you use PIK-toggle-dividend-recap as a barometer of economic activity, and of course you do, then yes it is definitely creeping toward its highest, “2006” setting. On the other hand another barometer isn’t. Equally enjoyable was the Journal’s companion piece on the bad news implied by dividend recaps: Read more »

  • 05 Oct 2012 at 1:59 PM

Dogs Getting More Attractive Financing Than Houses

I guess if you read the jobs numbers today you’d say “huh, the economy is getting a little better,” though there are other avenues you could go down. But if you read that Petco Animal Supplies, where the pets go for their animal supplies,1 sold $550 million of Caa1/CCC+ holding-company covenant-lite PIK-toggle notes at an 8.62% yield2 yesterday to fund a dividend recap, you’d be all “HOLY CRAP I LOVE 2006!”

The Journal article on the latter point takes the view of “some managers are sort of skeptical of holdco PIK-toggle notes to pay dividends to the private-equity owners of pet supply stores,” and, I mean, you can’t blame them (the managers or the Journal), but of course the real story is not “some people didn’t buy some terrible bonds,” which is always and everywhere true, but rather “other people did,” which is less common.

Part of the purpose of the Fed bidding everything government-guaranteed and <=5 years down to a zero yield is to convince / force the investors of the world to start making reckless investment decisions, er, “move further out the risk curve,” because people making reckless investment decisions like “I want to fund a chain of big-box kibble stores” is how we create new productive ventures and Put Our Economy Back To Work™. That and juicing aggregate demand by handing people money, which in America takes the somewhat unintuitive form of (1) lending them money to buy houses and/or (2) convincing them that they have more money because their house price went up.

The Petco part of the strategy is working like a charm. First of all, buying these bonds is just a classically reckless investment decision. Really the recklessness decision checklist for fixed-income investments consists pretty much of: Read more »