Qwest bonds jump on debt-for-debt exchange; talk on week's three remaining new deals

By Paul Deckelman and Paul A. Harris

New York, Nov. 20 - Qwest Communications International Inc. Bonds were solidly higher on Wednesday, after the financially challenged telecommunications company - as scheduled - announced a debt-for-debt swap to lengthen its maturities.

In the primary sector, price talk was heard on deals from Bway Corp., El Paso Energy Partners LP and Stena AB, all of which are set to price during the remainder of the week of Nov. 18.

Also sources gave the can-opener a couple of turns affording a peek at the coming Del Monte Foods Corp. deal while a little further off TRW Automotive is heard to be coming with an extra-wide load.

In secondary dealings, Qwest was clearly the big name of the day. The Denver-based regional Bell operating company's bonds had firmed two or three points on Tuesday on market speculation that it would announce a debt-for-debt exchange some time within the following few days; on Wednesday, that actually came to pass, and the existing bonds went up anywhere from three to 10 points, depending upon the particular issue involved.

Qwest said that it would exchange up to $4 billion face amount of new senior subordinated secured notes of its Qwest Services Corp. subsidiary and an as yet undetermined amount of new Qwest Communications paper for up to $12,902,653,000 aggregate principal amount of outstanding debt securities of its Qwest Capital Funding Inc. subsidiary via a private placement exchange transaction that will expire on Dec. 20, subject to possible extension (see "Tenders and Redemptions" in this issue for full details of the exchange offer).

Qwest Capital Funding's benchmark 7¼% notes due 2011 were seen having gained about three points on the session, to close at 60 bid, while the holding company's 7¼% notes due 2008 and its 7½% notes due 2008 both pushed up to around the 72 bid area, a better-than 10 point gain.

"There must be some sort of special provision in the indenture of those two issues that to get this deal done they are going to get paid a lot differently than the other debt, so that's why they were up a lot more," a trader suggested. He saw Qwest's 8 7/8% notes due 2012 up five points at 97 bid/98 offered.

"Qwest was up two to three points on some issues, 10 points on others," another trader said, saying that the big gains were notched by QCI (Qwest Corp., the operating company) paper.

"The arb [arbitrageur] accounts are coming in now," he said.

During the session, Standard & Poor's weighed in with a downgrade in Qwest's debt ratings, cutting its corporate credit rating to CC from B- and its bond rating to C- from CCC+ previously.

The ratings agency said that "despite the anticipated reduction in debt and lengthening of some maturities, the amounts involved are not that material relative to the company's total financial burden and overall maturities through 2005."

S&P credit analyst Catherine Cosentino further warned that "a high degree of risk continues to surround Qwest Communications International due to the pending Department of Justice criminal and SEC investigations, and the fact that near-term liquidity still remains a source of concern to Standard & Poor's, particularly if the $4.3 billion second phase of the company's directories sales is delayed beyond 2003."

An investment bank analyst said that the big question is "are the ratings agencies going to look at this as a default or not?"

He noted that S&P had lowered the bond rating for Qwest Capital Funding to C - "and that's as close as you can get to defaulting without actually calling them defaulted. [The agencies] tend to do that when they consider it to be a functional default. My question this morning [before the S&P announcement] was 'how much are the ratings agencies going to view this as an involuntary thing that the company is foisting upon bondholders? Because the more involuntary it is, the more it smacks of default." He said the ratings agencies' thinking is probably that the company has "very little in the way of alternatives other than forcing an exchange."

But while S&P described the exchange as tantamount to a default, Moody's Investors Service made no change to its ratings and said it will wait until the company's capital structure is finalized and it can better assess Qwest's business prospects. Fitch Ratings explicitly disagreed with S&P, describing the exchange as voluntary with no threat of near-term bankruptcy and therefore not a distressed exchange.

But the analyst said the bondholders don't have many options available to them either.

"The sad fact is that most of these things go through," he said. "I would think the company has consulted with some large bondholders and has received some input from them, but the fact of the matter is that most bondholders get these things and they don't see a whole lot of options other than to litigate - and of course, very few bondholders have enough of a position to make that economically worthwhile."

There are, he continued, "very few situations like WorldCom, where a bondholder has a significant enough stake to step up and say 'I will negotiate.'"

One puzzling factor, market observers said, was the fact that Qwest - which warned in an SEC filing last week that it might have trouble meeting near-term debt obligations - included in the exchange offering several bonds with maturities way out on the curve, in 2018, 2021, 2028 and 2031 - and is in fact shortening those maturities, by offering new paper maturing in 2014.

"I tend to agree" that such a step is odd, the analyst said, "especially giving up the kind of coupons that they are in the process [all of the new debt being given in the exchange has coupons of 13% or more, while all of the debt being exchanged for comes in below 8%]. That's the kind of things that we'll see commented upon by the ratings agencies."

He speculated that Qwest might have been forced to include those longer-dated issues in the exchange offer, even though that debt won't mature for years because of indenture provisions in the longer issues. "That's forcing them to put 14% coupons on new notes due in '14 versus 7 5/8% coupons on notes that go out to '21" and beyond.

"Why take billions of dollars of debt that matures out beyond 2010 and slapping double the coupon on it, unless you're being forced to by some provisions that you just can't get around?" he asked. "The company has not yet given a rationale that I've seen as to why it is lumping them all together."

On the buy side, Brian Hessel, who helps to manage $300 million of high-yield debt at Stonegate Capital Management in New York, agreed that "I kind of scratched my head about that" in puzzlement. "I thought the whole goal that they were trying to accomplish is to extend the maturities, but they're doing just the opposite by offering to exchange the 2031 bonds for a shorter maturity.

"That kind of tells you that their goal here is just to take advantage of discounted prices to buy back bonds on the cheap, as opposed to them feeling pressure that their capital structure is unsustainable."

Hessel said that bondholder views of whether the deal is a good thing for them would hinge on when they came to own the Qwest bonds and how much they paid for them.

The exchange terms outlined in the Qwest announcement are "probably just a starting point," he said, and may be subject to further discussion between the bondholders and the company.

"If you owned Qwest yesterday, you owned it because you thought the company would survive and be OK, and taking a big hit on your principal by accepting 50, 60, 70 cents on the dollar for your claim is not what some people have in mind. "

Benefits to bondholders for going along with the deal include increasing the coupon to about double present levels, as well as moving up in seniority in the event of a restructuring. "But some investors are not fond of the idea of taking such a big hit on the principal, especially if they bought the bonds either at new issue or a long time ago when Qwest was a better credit."

"People who bought the bonds at distressed prices when the company was in worse financial position before the announcement of the of the Dex [directory unit] sale, they might be willing to take [a hit] to exchange into the new notes, but I think it's going to be difficult to convince CBO investors or higher cost-basis investors to accept these prices, especially because the market seems to be moving up - while these prices they are offering seem to be based on where the bonds have been in the last couple of weeks."

Hessel suggested that the exchange offer "is not going to be fully subscribed. I'd be surprised if it was."

His own company owns some Qwest bonds - and the portfolio manager said that they were going to be doing a lot of number-crunching over the next few weeks in order to determine whether to go along with this deal or not.

"We have a month" in which to make a decision, and "a month from now, if the market is much higher, these prices will seem that much less adequate. If a month from now the market is down a lot and Qwest keeps the offer outstanding, then maybe people will find it attractive."

Assuming all goes well with the exchange offer and it gets done on the terms Qwest announced, "anything they can do to push out the maturities and at the same time de-leverage the company by having less principal amount outstanding is obviously a positive, but we'll have to do the math."

He estimates that the offer could wind up cutting the total debt load by a billion and a half dollars, "so we would have to look at whether the higher interest expense on the new debt is offset by the fact that a billion-and-a-half dollars goes away. The higher coupon might not affect them as much as much if they are able to cut their debt by a greater percentage than the coupon goes up."

While bondholders and analysts will debate the merits of the offer, Qwest shareholders were voting with their wallets Wednesday; its New York Stock Exchange-traded shares jumped 43 cents (11.03%) on the session to close at $4.33, on volume of 39.3 million shares, nearly four times the norm.

A bond trader noted that "yeah, Qwest was in the news on the exchange offer, yada yada. But what's really happening here is that the market has been on a feeding frenzy across the board. It doesn't matter what it is. What you're seeing now is people reaching down for the more speculative, illiquid situations."

He said that "you've seen a lot of preferred stock issues rally, which had been left for dead. But what you have now is people believing for the first time in a long time that stuff can go up, and it can go up as fast as it went down. People forgot that."

He cited recent movement in communications antenna tower issues, such as American Tower Corp.'s 9 3/8% notes due 2009 which have risen to around 76 bid, up nine points in the last week, and well up from bid levels around 50 at the beginning of October.

"There's just so much cash out there," he concluded. "The decks have been cleared on most of the liquid sectors. The new issues, while they've been coming with more frequency, are not meeting the cash on hand. So guys are now doing what they have always done - they are now shifting their eyes down and asking 'what can I buy '?"

Similar comments came from the primary side of the junk bond world Wednesday.

"The market is on fire," one sell-side official stated.

"There is a huge bid. The high-yield market has definitely oversold itself and now it's springing back. There are buyers in with a vengeance."

However, this sell-sider specified, investors are queuing up in the new issuance lines for quality only. The buy-side does not seem to be demonstrating much patience for stories at present.

"The quality double-B paper has got an unbelievably short bid to it," the source said.

"Anything with any credit taint gets absolutely hammered; people sell first and ask questions later."

During Thursday's primary market session information circulated on a deal that has been waiting in the wings since late summer. Del Monte Foods Inc. is expected to hit the road with new notes after Thanksgiving according to an informed source.

Market sources report that the junk bond deal will be comprised of $300 million of 10-year senior subordinated notes.

Morgan Stanley, Banc of America Securities, JP Morgan and UBS Warburg are providing the financing for the deal which will merge the San Francisco-based processed food company with certain of the H.J. Heinz businesses.

Also on Thursday news of the junk bond piece of the Blackstone Group's acquisition of TRW Automotive was heard. The $3.257 billion cash portion of the deal will be raised in the debt markets, approximately 40% from junk bonds and 60% from the loan market. Credit Suisse First Boston, Deutsche Bank Securities and Lehman will provide financing.

Price talk emerged on three of the four deals that remained to be priced during the week of Nov. 18.

Talk of 10%-10¼% was heard on Atlanta steel container maker Bway Corp.'s $190 million of eight-year senior subordinated notes (B3/B-) to be issued jointly with Bway Finance Corp. The deal is set to price late Thursday or early Friday via Deutsche Bank Securities.

The price talk is 10¾%-11% on El Paso Energy Partners LP's $150 million of 10-year senior subordinated notes (B1/BB-), according to a syndicate source who added that the deal will price Friday. JP Morgan, Goldman Sachs and UBS Warburg are joint bookrunners and Wachovia Securities, Inc. is co-manager on the Houston-based energy company's deal.

And price talk is 9¾%-9 7/8% on Swedish shipping firm Stena AB's $200 million of 10-year senior notes (Ba3/BB-), expected to price Friday morning via JP Morgan.

Meanwhile on Wednesday a syndicate source told Prospect News that 65% of the 110 accounts that were in the $1.2 billion book on the split-rated Hilton Hotels deal were high yield. The company priced $375 million of 10-year senior notes at par Tuesday to yield 7 5/8% via Morgan Stanley and UBS Warburg. The offering was upsized from $250 million.

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