Junk Bond Casualties--The List Keeps Growing
Columbia Savings said it was insolvent. Southland Corp., owner of 7-Eleven stores, said bankruptcy may lie ahead. First Executive took a bruising $836-million loss.
The news was heavy from the world of high-yield junk bonds last week, and most of it was bad.
Companies with junk in their investment portfolios revealed that new and gaping wounds had been inflicted by the junk market’s 9-month-old collapse. And corporations that had used the high-risk paper to expand in the ‘80s were finding--as the critics had warned--that those dazzling deals were sometimes too good to be true.
Some of the companies may be disabled only temporarily. But many others seem fated to join the rusted hulks and scattered debris of America’s growing corporate junkyard.
To be sure, some investors recently have seen signs of hope in the junk market. A few junk mutual funds have lately reported net inflow of cash from investors. Prices of some junk bonds--down 20% on average since last June--have recently turned up, prompting predictions from some quarters that maybe the worst is over.
Others see it differently. “So much of this market is still in rigor mortis,” says Michael F. Holland, president of the investment management arm of the Salomon Bros. investment firm.
Richard Lehmann, president of the Bond Investors Assn., a trade group in Florida, wrote his members last week to urge them to resist the blandishments of junk fund salesmen who want them to reinvest. Lehmann expects to see a wave of junk defaults of more than $15 billion this year, brought on by a weaker economy, the increase in the number of junk issues reaching maturity and the lower overall quality of the junk bonds that were issued at the end of the decade.
And the near halt in the issuance of new junk bonds, he believes, will push some companies that need refinancing into insolvency.
Only three new junk issues, worth $375 million, were floated in the first quarter of the year, compared to 26 issues, worth $5 billion, in the first quarter of 1989.
Lehmann believes that, in the months ahead, the junk bond market will be as battered by defaults as it has been in recent months by the sharp slowdown in trading. The current lull “is like being in the eye of a hurricane,” he says. “And as with a hurricane, the winds batter you twice--from opposite directions.”
Many market pros have compiled lists of the possible junk market casualties of tomorrow. While most of the bad news about S&Ls; may now be out, there may be new horror stories from the insurance industry as more insurers reveal how much of their assets are tied up in impaired securities.
Even some stronger companies are turning up on some investors’ “watch” lists. Some analysts put R. H. Macy & Co., the big retailer, on their lists when it posted a $39-million second-quarter loss last month. Some are keeping an eye on RJR Nabisco, long considered the cream of the cream of junk.
RJR bonds have been rising lately on speculation that its principal owner, the Kohlberg Kravis Roberts & Co. buyout firm, will buy back bonds that are due to have their interest rates “reset” next year to enable them to trade at their original face value. But others wonder where KKR will find the $1 billion to $2 billion needed to do so.
When the history of junk’s glory days is written, the list of defunct and disabled will probably include many companies whose troubles aren’t yet known. But the list of known casualties is already long, and includes these:
Drexel Burnham
The convulsions of the junk bond market weren’t the only cause of the investment house’s fall last February, but they were a principal contributor. And it was somehow fitting, for it was, of course, Michael Milken, Drexel’s indicted junk bond evangelist, who almost single-handledly expanded the junk business from a $2-billion market in 1982 to a peak value of more than $200 billion.
Drexel’s fall showed just how fast a crumbling junk market could wreak disaster. Drexel Chief Executive Frederick H. Joseph, who declared that a turnaround was at hand last January, announced Feb. 13 that a cash crunch--prompted largely by the junk collapse--was forcing a bankruptcy.
First Executive Corp.
Fred Carr, chairman of the Los Angeles life insurance holding company, won’t even discuss his former ties to Milken these days. But for many years, the one-time whiz investment manager was one of Drexel’s biggest junk bond customers, to the enduring regret of some of his current stock owners and policyholders.
As First Executive’s portfolio has lost value, the stock has taken a drubbing and customers have surrendered policies in a torrent. In just January and February, policyholders gave back $559 million worth of insurance. Only last Monday, First Executive disclosed a whopping $836-million loss for the fourth quarter of 1989.
Still, policy surrenders were slowing recently, the company says, and some analysts believe that First Executive’s $2.5 billion in cash and other short-term investments will be enough to pull it through.
Ingersoll Publications
Ralph Ingersoll II sometimes derided the talents of competing newspaper executives as he turned his father’s slow-moving newspaper management company into an international chain of 40 dailies and 200 weeklies. But when an industry recession set in, it began to look like this close Milken pal had paid too much for the papers, particularly when he had to meet the interest payments on $500 million in junk.
This year, Ingersoll has sold off 10 daily newspapers, and he’s trying to avoid defaulting on some of his companies’ more than $600 million in long-term debt. Ingersoll has insisted that the setback is minor, pointing out that most of the papers have risen in value.
Integrated Resources
Once a purveyor of tax-sheltered real estate investments, Integrated Resources tried to use Drexel’s magic paper in the late ‘80s to become a diversified investment company. It used investment profits generated by junk to move aggressively into the life insurance and mutual fund businesses.
But Integrated’s finances were always a delicate balancing act, and when beleaguered Drexel couldn’t help it through a cash squeeze last June, Integrated Resources defaulted on $1 billion in bonds. The default, a key factor in the junk market’s long slide, began an unraveling that ended last February when Integrated and Drexel filed for bankruptcy reorganization one after the other.
Columbia Savings
Thomas Spiegel said there was nothing wrong with his thrift investing depositors’ taxpayer-insured money in junk bonds, and for a while it looked like he might be right. Then the junk market began to fly apart, and since Beverly Hills-based Columbia held more junk than any other S&L;, it naturally was hurt badly.
Columbia announced last Sunday that it has lost $575 million in the past five months, leaving it insolvent. Much of the losses come from the thrift’s $3-billion junk portfolio, which Columbia has recently been trying to unload.
Congress is entitled to a share of the blame. Just before the market’s collapse, it enacted a law that required S&Ls; to unload their junk by 1994 and to recognize the bonds’ fallen values immediately.
Columbia’s new executives maintain that the S&L; may yet escape government takeover, but industry analysts believe the only remaining question is how much of the tab will be left for the underwriter of last resort--the U.S. taxpayer.
SCI Television
The owner of the Vail ski resort, George Gillett proved over the years that he was a pretty fair operator of television stations. But he started down a slippery slope in 1987 when he used junk bond financing to grossly overpay for the six former stations of the Storer Communications chain.
SCI, jointly owned by Gillett and Kohlberg Kravis Roberts, defaulted on $153 million in bank loans and $100 million in bond interest last year. It escaped bankruptcy in February only because Gillett and KKR agreed to cut their stakes and make other concessions.
Some analysts believe Gillett’s future interest obligations mean trouble’s still ahead for SCI and for Gillett’s other company, Gillett Holdings. Some predict that he may be forced to sell other properties and may someday even be forced to buy his ski lift tickets at the window, like everybody else.
Imperial Savings
Another big customer of Milken’s junk bond department, Imperial Savings showed that there are many ways for a thrift to lose its shirt. Imperial became one of the biggest in California by helping finance the post-World War II housing boom in San Diego County, but in the tough times of the early ‘80s began to take advantage of California’s liberal regulations on S&L; investment.
It plowed money into junk but also invested millions in a risky consumer loan portfolio and in an importer of Yugo cars. Both of those investments flopped, and after taking a big writedown on its junk portfolio, Imperial was seized by federal regulators on Feb. 26. It will remain in the record books as the largest financial institution to fail in San Diego County.
West Point Acquisition Corp.
Industrialist and one-time presidential candidate William Farley used to be cited as an example of how far you can go on other peoples’ money, but recently he’s been held out as proof that you can’t go on forever. The Chicagoan, a former encyclopedia salesman, last year signed on to buy West Point-Pepperell, the largest sheet and towel maker, for $1.7 billion. He pulled together 95% of the price, but partly because of the junk market’s problems, he has floundered trying to come up with the remaining $80 million.
Drexel, which promised to float $1.6 billion in junk for the purchase, is gone. Farley sold off the Cluett Peabody apparel company to raise money, but it fetched only $410 million, compared to the $800 million that was originally expected. Last week, Farley defaulted on $796 million in bank loans and missed an interest payment on $705 million in bonds, and now bankruptcy is a possibility.
Southland Corp.
The Thompson family, a pillar of the Dallas Establishment, three years ago used junk bonds to take its company private and avoid a takeover by an unfriendly foreigner, investor Samuel Belzberg of Canada. Now the Thompsons may face the sale of a controlling interest to the Japanese--if they’re lucky.
The company, which owns the 7-Eleven convenience store chain, paid stockholders $4.9 billion in the leveraged buyout. The deal stretched Southland’s leverage drum-tight and didn’t foresee that competition among convenience stores could sharpen.
Southland wants to sell a 75% stake to its Japanese licensees, but it lost $1 billion in the recent quarter and may face bankruptcy if it can’t talk its bondholders into swapping their bonds for new debt and stock.
Western Union
The company that pioneered worldwide communications says the fax machine has forced it to the brink of bankruptcy, but its junk financing arrangements have played more than a small role as well.
Investor Bennett S. LeBow, a Milken ally, led a group that bought the tottering company for a mere $25 million in equity in 1987. But when LeBow issued $500 million in junk to refinance Western Union’s debts, he included “reset notes” that last summer lifted the interest rates to a crushing 19.25%. Flattened under the weight of its interest payments, Western Union says it may file for bankruptcy protection unless it can restructure its debts.
Resorts International
Some thought Merv Griffin had outsmarted Donald J. Trump when he purchased the casino company from Trump in 1988, but carrying the casino’s junk and other debt proved a lot tougher than handling restive talk show guests.
Resorts, which owns casino hotels and real estate in Atlantic City, N.J., and the Bahamas, was carrying $600 million in long-term debt when Griffin bought it by layering on another $325 million in junk financing. Within a year, Griffin had filed for bankruptcy court protection. Now, in addition to other indignities, Resorts’ Atlantic City operation faces tough new competition from Trump’s Taj Mahal casino, just down the boardwalk.
Federated and Allied Stores
Everybody but Robert Campeau and his investment banker seemed to think the Canadian entrepreneur was overbidding for the two huge department store chains, and the general view was vindicated when Campeau took his 260 stores to bankruptcy court last January.
The former building contractor paid $3.6 billion to buy Allied in 1986 and $6.6 billion to buy Federated in 1988, both in junk-backed deals that are often held out as prime examples of leverage abuse. The bankruptcy filing, the second biggest after Texaco’s, jolted the credit markets and helped usher in an era of tighter credit standards. By depressing prices, it also spread grief throughout the retailing world. Campeau is rumored to be personally near insolvency as well.
Hillsborough Holdings
Buyout specialists Kohlberg, Kravis and Roberts are said to be some of the smartest guys on Wall Street, but last December’s bankruptcy filing by this KKR-owned building materials and natural resources company proved that sometimes the king of the heap can goof up royally.
The $2.4-billion, junk-funded buyout was complicated by lawsuits from former employees who claimed they’d been hurt by a subsidiary’s asbestos products. The suits made it too expensive for KKR to lift some junk notes to their original value by raising interest rates, as KKR had pledged to do. KKR said the deal was OK except for the suits--which may be another way of saying that the LBO firm, like so many others, didn’t leave enough margin for error.
List Goes On
There’s Harcourt Brace Jovanovich, the publisher and insurance company, which took on heavy debts to repel a takeover bid by British media lord Robert Maxwell and has sold its Sea World and other assets. There’s Revco DS, the discount drugstore chain that became the first major LBO to enter bankruptcy court in 1988 after an over-leveraged buyout two years earlier.
The list should include CenTrust Bank, Florida’s largest S&L;, which was seized in February by regulators who said CenTrust had squandered assets on a $1-billion junk portfolio, yachts, art and Oriental rugs. There’s Eastern Airlines, which defaulted on $1.1 billion in junk bonds before it filed for bankruptcy court protection last March, and Southmark, the Dallas real estate investment company that went the same route last July.
“It’s already a pretty big group, and I’m afraid it’s going to get a good bit bigger,” said T. K. Duggan, president of a New York distressed-securities boutique called Delaware Bay Co.
JUNK BOND WINNERS
Some junk-funded companies look good to analysts. D10
