Plummeting bond prices have cast a cloud of financial uncertainty over leveraged buyout deals of the past two years — including last year’s acquisition of real estate brokerage and franchise powerhouse Realogy by an affiliate of private equity firm Apollo Management LP.
And while industry experts say they expect that Realogy and its well-known company-owned and franchise brands are better suited than some brokerage companies to withstand this residential market downturn and troubles related to the billions of borrowed money and devalued bonds, they also say Realogy will not be unscathed by the market woes.
Money manager Sabur Moini of Payden & Ragel, a company that oversees fixed-income securities, said in a Bloomberg News report that bond prices show that Apollo’s equity in Realogy “has no value right now,” and he also suggested that if the bonds trade in the range of 50 cents to the dollar or 60 cents to a dollar, “the market is saying that these guys are headed toward bankruptcy.”
Moini did not return Inman News’ requests for comment.
Other reports have also stated that the Realogy deal may face financial problems — Barron’s reported that the Realogy buyout “could run into trouble if the economy worsens.” And, “The low price of Realogy’s bonds suggests there’s a chance of a financial restructuring in coming years. If that happens, Apollo’s equity likely would be impaired.”
And an Associated Press report stated that Realogy, among other companies, “have … seen their LBO debt battered in recent months. The plunging prices don’t put the buyout firms in a good spot. Many made their purchases at the height of the buyout boom, making it questionable if they’ll ever see their original valuations again.”
But Realogy said in a statement that bond pricing is not a good gauge of the company’s financial strength.
“The current price of our bonds has little bearing on our company’s financial performance and is not an accurate indicator of our ability to continue to meet our debt obligations,” said Richard A. Smith, Realogy CEO and president, in a statement.
“We have met, and fully expect to continue to meet, all of our debt service obligations. Bond pricing is subject to short-term trading market vagaries and uninformed speculation. In determining our financial strength, it is far more important to look at our financial fundamentals.
“During the past two years, we have taken great care to position Realogy to be resilient through a challenging real estate market and to capitalize on a market recovery, and we continue to actively invest in the company’s future growth,” Smith also stated.
In a Jan. 9 filing with the U.S. Securities and Exchange Commission, Realogy noted that the company is “significantly leveraged,” with about $6.26 billion of total long-term debt as of Sept. 30, 2007.
In leveraged buyouts, a company acquires most of another company’s equity through borrowed money or debt. And typically there is a far larger share of debt to equity in the deals, as the acquiring company is not required to front the bulk of the capital to close the transaction.
In the Apollo-Realogy deal, Apollo committed to supply about $2 billion in equity as a part of the transaction, borrowing the rest. The deal was valued at about $8.5 billion, Realogy reported in April 2007.
Martin Fridson, CEO for FridsonVision LLC of New York, an independent investment research company, said that the financing has dried up for leveraged buyout deals, and he noted that large segments of the high-yield bond market and credit market are “under pretty severe levels of stress.”
In those LBO deals that are already done, “there’s the question of who’s going to ultimately wind up owning the debt. Suddenly they’ve got more debt, much higher interest costs than they had before,” he said.
Of those deals that are already in financial distress in the bond and loan market, about one in five “historically have gone bust within a year once they got into that distressed category,” he said.
While some companies may argue that they are “a healthy company with a sick balance sheet,” Fridson said the reality is that companies that are in the distressed category “wind up being somewhat impaired operationally.”
Realogy was not Apollo’s only LBO last year, and it was not the biggest. The Financial Times reported that banks participating in the $17.1 billion deal by Apollo Management and Texas Pacific Group to buy Harrah’s Entertainment “are having trouble selling on $14 billion in loans and bonds to third parties,” and “with the bulk of the debt remaining on their books, the banks could be left with a sizable loss.”
Ken Jenny, a real estate consultant who served as an executive for the franchise operations of Coldwell Banker, now a Realogy brand, and Prudential, said he expects Realogy will be able to weather the market downturn and Wall Street worries even if Apollo falters.
“If Realogy couldn’t stand on its own without its parent infusing capital, I’d be concerned. Real estate franchising is a highly profitable business,” Jenny said, adding that the company “made many changes in its expense structure to be able to prepare for this kind of market.”
Realogy and its predecessor companies have “weathered through a lot of the cycles” in the market in past decades, he said.
If Apollo decides to find a buyer for Realogy, Jenny said he expects there would be plenty of suitors. “Realogy would be a very attractive organization to many different companies that are looking for a play in real estate right now.”
Chuck DelGrande, managing director for Presidio Merchant Partners, an investment-banking firm that offers advisory services on mergers and acquisitions and private placements, said that while the market is in a challenging time, with steep discounting of bonds, he said that Apollo “is an extraordinarily well-run company,” that the Apollo buyout of Realogy was well structured, and that Realogy’s management team has been battle-tested in previous slow markets.
“Realogy … has one of the strongest, if not the strongest balance sheets in the residential real estate industry today. Strong balance sheets tend to win during downturns,” he said.
But he also noted that any financial troubles for Apollo could ultimately trickle down to Realogy.
Realogy’s Smith, in his statement, noted that the company is moving ahead with plans to launch another real estate franchise brand this year — Better Homes and Gardens Real Estate.
“During the past two years, we have taken great care to position Realogy to be resilient through a challenging real estate market and to capitalize on a market recovery, and we continue to actively invest in the company’s future growth,” he stated, adding that the company is continuing to make investments in technology and to grow its international presence.
