Another round, another pint? Stonegate
They are pubs, they are in UK, they always get the investors’ attention.
To understand the Stonegate credit as it is today, we need to return to the summer 2019 when the company owned by the TDR Capital sponsor, decided to buy Ei Group for 285p per share. The financing for the acquisition was executed in the broad syndicated market in the summer 2020, repaying the bridge facilities backing the buyout, after closing the transaction in March. The moment was very difficult due to COVID restrictions imposed by the UK government, but the name capitalized on the strong credit market appetite of the summer 2020 which continued unabated over the following months. The Company issued 1.2 bn GBP package split in 950m GBP secured note at 8,25% and 300m EUR FRN at 575 bps spread. Both securities were 5 years maturity. The financing included, also, a second lien, a PIK note, and a private placement bond ?of 500m at 8%. In November 2020, Stonegate placed another 120m GBP tapping the 8,25% notes (the management did it again, ?always helped by the positive credit environment, in July 2021 with another tap of the same bond issued at 103.5 for a 7,25% book yield consideration). The combined entity was the largest pub company in the UK based on the number of sites (roughly 4750).
I wrote that the company enjoyed the positive market conditions of the summer 2020 by issuing the largest single-B sterling tranche ever placed in the market four years ago. The credit received strong support from the investors due to the right maturity of the proposed notes, an attractive coupon (it was easy to guess it because the private placement at 8% was already in the capital stack, but the rest of the market was trading around 6,85% for single-B) and the asset values in the Ei estate providing reassurance. What was the borrower’s negative side? (I did the euro notes despite the small size of the tranche which kept some investors out for liquidity reasons; the fixed note, more juicy and more liquid, obviously overperformed the FRN at the break, and over the following months):
Remaining cautious towards the credit appeared logical. The financing came out in advantageous conditions for total yield, credit spreads, and risk attitude of the HY market. Perfect timing.
The Stonegate bonds started to suffer from Q2 2022 and continued their negative trend in 2023, due to poor performance when compared to projections, and an excessive amount of debt in the balance sheet which, without any repayment along the years and muted cash generation, reached the amount of 3120 (net) million GBP at the end of Q2 2024. The leverage ratio went in the opposite and undesired direction since the syndication of 2020, although this was not difficult to predict by observing the operating challenges (pick up the angle you want to take there) and the inflated cost base. Disposing of a portion of portfolio of pubs at an attractive valuation seemed to be a difficult task in 2023 (see point number 2 above).
At the beginning of 2023 the bonds were trading at 12% YTM, wider than corresponding HY index, showing very little interest to go tighter. The total valuation of the Stonegate’s properties was the only consideration that gave a ceiling to yields, avoiding the bonds drifting wider. At those levels (12,5%) the notes in GBP (the euro FRNs looked interesting as well because they traded 3% wider than the single-B index, but they were less liquid and were paying a premium) were attractive despite some investors’ criticism.
The bonds maturing in 2025 started to become a problem (I find, anyway, strange and poor from an ALM perspective, the decision of accumulate a large stack due next year, similar to how the subordinated debt was organized across maturities). The new debt funding orchestrated in December 2023 with an asset sale of 1034 pubs to unrestricted subsidiaries that received a secured whole business loan, started to address a possible liquidity issue in Stonegate that was still burning the available cash in the balance sheet. That deal, at the end of 2023, was expected in a certain way (Apollo in December was testing the engines for the 2024 deals in the European HY space as many investors appreciated later).
On Monday 29th of July, the Stonegate creditors decided to give the company another chance: a refinancing for the entire capital stack. The timing, apparently surprising, is not premature due to the RCF maturity.
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Stonegate, once again, benefits from a strong market appetite for credit assets in a rally which endures through three quarters, while the important contribution from TDR Capital, 250 million capital injection (an act of faith from them considering the return they got so far on the name), should allow a smooth refinancing.
The deal will be done. Existing investors, those willing to exit and those wishing to roll, together with new credit managers attracted by the yield, will get the deal done.
My view: the name remains excessively levered, and the efforts to boost the Ebitda and the cash flows did not work over a period of 4 years (four). The improvement in the credit financial profile has been limited and it is unlikely that the business will reach the run-rate pro forma Ebitda of 494 million, written in the 2020 transaction, despite the management’s optimistic assessment described in the roadshow slides (the run rate is 412 million at Q2 2024 for the Restricted group as taken from the presentation; the project Platinum and ”its optionality” do not help a like-for-like analysis of the entire business). Timing and steady performance remain important when a credit serves a debt with attached coupons of 10%. The slow progress of unlocking earnings through the different initiatives is fighting with an excessive leverage and with the usual problems that, we know well at this point, affect the sector: costs, weather, UK economic growth (others components impacted negatively the performance in those last four years, but I prefer to reduce their importance due the nature of one-off event).
A par-refi just gives Stonegate and TDR more time and provides options for the future without harming the investor community, but the operating initiatives to finally bring positive cash flows need to work better over the next quarters and years, and not necessarily linked to sport events and line-ups.
The market might not give the company a third opportunity. If the next maturities will be finishing in a bearish credit environment or in economic stagnation phase for UK, it will be necessary to remove 2/2,5x leverage from the capital stack in order to continue serving pints to thirsty investors.
Make your own projections, scenarios, and case study. Decide wisely.
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