Gala Coral’s mezzanine debt buyout was ambitious, but how far-reaching is it? By Gavriel Hollander
There might be only so many ways to skin a cat, but the ability of restructuring specialists to conjure up new ways to repackage old debt continues to dazzle. Gala Coral’s ambitious debt-cutting exercise reached its denouement last month with innovation once more very much the name of the game. But how much of a watershed this deal turns out to be is up for debate, not least among the legal advisers put in place to handle the process.
Gala Coral’s situation was, as one restructuring partner puts it, “a perfect storm” – the combination of a distressed entity in need of a cash injection but with residual value and a mezzanine lender prepared to put up new money.
The story dates back to the £1.5bn acquisition of bingo hall owner Gala by two private equity houses – Candover and Cinven – in 2003. A third private equity house, Permira, also bought a stake prior to 2005’s £2.2bn acquisition of rival Coral Eurobet.
Jump two years to 2007 and the triple whammy of the UK’s smoking ban, tighter gaming regulation following the introduction of the Gambling Act and the start of the credit crunch, meant that debt, once so easy to acquire, was now a precious commodity. And with no easy refinancing options on the table, the future for the equity trio was far from bright.
Cue the entry of a new group of investors, led by Apollo and featuring fellow distressed buyout specialist Cerberus, which bought up 70 per cent of the group’s mezzanine debt in a little over a week this January before pumping a further £200m of cash into the business. After turning that debt into equity, the total investment ended up north of £700m.
For the clutch of firms involved, the deal has occupied minds for much of the past 12 months, but arguably one of the juiciest roles might have gone to a relatively late entrant in the form of Kirkland & Ellis, acting for Apollo. Finance partner Neel Sachdev led the deal for the US firm.
Bingham London managing partner James Roome led for the original group of mezzanine lenders, including Park Square Capital and Intermediate Capital Group (ICG). ICG sold its entire mezzanine tranche, while Park Square formed part of the Apollo-led syndicate. Bingham and Kirkland ultimately worked in tandem for the new group.
Both Apollo and Cerberus have been long-standing clients of Ashurst, but the City firm had already been engaged by Gala Coral, with restructuring partner Giles Boothman – also a key partner for the Cerberus relationship – taking the lead.
Ashurst, under the guidance of corporate partner Bruce Hanton, also acted for the three shareholding private equity houses, which ultimately escaped with a cash payment understood to be about £10m after writing off their original investment.
Linklaters’ banking partner Nick Syson advised the group of senior lenders, led by RBS, which saw its loan commitment dip under the £2bn mark.
With debt-for-equity swaps hardly a new vehicle, what makes Gala Coral stand out is the achievement of the mezzanine lenders in becoming the solitary equity holders.
“In the past it’s normally been the senior creditors who end up holding the baby when they don’t want it,” explains Roome. “In this cycle, for the junior creditors to do it was different.
“We’ve seen a lot more failures than successes, so this is a real landmark in that it got done, and that it’s a big, successful deal.”
Roome thinks the success of the mezzanine lenders in pulling off such a complex restructuring will encourage other secondary investors to follow suit.
“The innovation here came from the fact that this was one of the first ’loan-to-own’ strategies to be implemented successfully,” says Sachdev. “But it’s not a strategy without risk as the mezz can get scorched.”
And not everyone is convinced by the ’loan-to-own’ structure. “Clients were talking about it 12 months ago but less so now,” says a City-based private equity partner. “There’s no certainty that you can pull off the ownership bit afterwards.”
The deal invites comparisons with last year’s IMO Car Wash restructuring, in which the mezzanine holders were left empty-handed. Latham & Watkins acted for the company, but restructuring partner John Houghton can identify differentiating factors in the two deals.
He says: “The difference between IMO and Gala was that in IMO the valuations and the market testing showed that the mezz were clearly out of the money and so they got toasted. In Gala the mezz had a story on valuation and that got them a seat at the table as a result.
“It shows that IMO was not the death blow for mezz debt.”
But he adds that only a particular set of circumstances can allow lenders to pull such a deal out of the fire.“In Gala the mezz was prepared to convert £558m of debt into equity and to inject a further £200m in cash, which went to pay down senior debt. That’s not a play for the faint-hearted,” adds Houghton.
“The other key feature was that the mezz got organised early and looked like a credible prospect. It’s a credit to them and their advisers – they played it well.”
Despite all the backslapping, the significance of the deal may not be all that far-reaching.
“We would’ve expected to see more restructurings where distressed funds buy into the fulcrum debt,” says Boothman. “But the conditions that arose in Gala Coral haven’t arisen that often.
“It’d be a mistake to assume that all private equity restructurings will follow this pattern. It’s a bit like playing Monopoly – you start with the same set of circumstances but can end up with very different scenarios as the process evolves.”
Even if it doesn’t turn out to be a game-changer the deal is still likely to excite its share of interest in the legal community.
“Lawyers will look at [loan-to-own] again,” suggests SJ Berwin finance head Jeremy Cross. “It’s been tried before but it hasn’t generally worked.
“What you’ll probably find is that people who act for mezz guys will get involved but they might not have been on the original deal.”
In a funds market that has not picked up as some expected earlier this year, the mezzanine lenders’ gamble on Gala Coral is one that could pay out for a number