Fleming flounders as Kmart kills contract; TRW mega-deal price talk emerges

By Paul Deckelman and Paul A. Harris

New York, Feb. 4 - Fleming Cos. Inc. bonds and shares slid badly on Tuesday, as its largest customer, the bankrupt Kmart Corp., jettisoned its contract to buy grocery items and other packaged food products from Fleming - even though the termination of the contract was by no means unexpected. Also on the downside Tuesday, Trump Atlantic City Associates bonds and bonds of other gaming companies with Atlantic City operations were down after New Jersey Gov. Jim McGreevey proposed increasing the state tax on casino gross receipts to 10% from 8% to help the Garden State solve its budgetary problems.

In the primary market, price talk emerged on the $1.4 billion four-part, dual-currency mega-deal being brought to market by auto parts giant TRW Automotive, while Burns, Philp & Co. was heard having hit the road to market its $150 million issue of 10-year notes.

In the secondary market, Fleming "was the name du jour," a trader said, while a second trader characterized it, less charitably, as "disaster," after the two companies announced the end of their supply arrangement.

Although the decision was presented jointly to the public, it seemed clear from the wording of the announcement that troubled Troy, Mich.-based discount retailer Kmart - now in Chapter 11 but hoping to emerge by April 30 - was more the catalyst behind the decision.

Kmart president and chief executive officer Julian Day was quoted in the announcement saying that "at this critical juncture in our chapter 11 cases . . . we have determined that given the change in our store base, among other things, the Fleming supply arrangement no longer meets our needs and the rejection of the contract [which is permitted under the federal bankruptcy code] at this time is appropriate."

Fleming chairman and chief executive officer Mark Hansen, meantime said that "despite our mutual efforts to negotiate modifications to the supply agreement, it was clear to both parties that termination was the right solution. The basis on which the parties entered into the agreement have substantially changed, warranting an end to the relationship."

Kmart had more than 2,200 stores when it entered Chapter 11 in January 2002, but closed more than 200 of them last year, and announced plans last month to shutter an additional 316 outlets, in hopes of carving its costs down to manageable levels and getting out of bankruptcy.

Fleming itself had speculated about the possibility of ending the Kmart contract, as the Dallas-based wholesale grocery supplier tries to pump up its own sagging profits. Since the beginning of Kmart's bankruptcy ordeal, Fleming has taken pains to reassure its stock and bondholders that even though Kmart is Fleming's largest individual customer, Fleming's customer base is diversified enough that it would be able to survive the loss of the contract, which was signed between the two companies in 2001.

Even so, Fleming investors greeted the news with dismay. Fleming's shares tumbled $1.06 (28.80%) to end at $2.62, on New York Stock Exchange volume of 4.2 million shares, more than six times the norm.

On the bond side, Fleming paper "was all over the place," a trader said, quoting its 10 1/8% senior notes due 2008, which ended Monday at 71 bid/73 offered, as having swooned all the way down to 62 bid/65 offered, although he later saw trades up around the 68 bid level.

At another desk, however, a trader quoted the 10 1/8s finishing the session down in the lower 60s, for around an eight-point loss. He meantime saw Fleming's 10 5/8% subordinated notes due 2007 dropping to 40 bid/41 offered from 48 bid/49 offered on Monday.

Still other observers saw those 10 5/8% notes dipping as low during the session as 38.5 bid. One also saw Fleming's 9 7/8% subordinated notes due 2012 falling to 35 bid from prior levels around 38. Given Fleming's own well-publicized problems (it is trying to dump its money-losing retail supermarkets division and recently issued lowered guidance) as well as its relationship with the bankrupt Kmart, he advised that investing in Fleming "is not for the faint of heart."

Kmart's bonds, such as its 9 3/8% notes due 2006, were at the same time heard quoted around the 15.5-16 bid level, little changed on the session, although off from recent bid levels around 18.

Elsewhere in the retailing sphere, J.C. Penney's 8 1/8% notes due 2027 were quoted around 95 bid, and A&P's 7¾% notes due 2007 were around 73, both unchanged.

But there was movement in Rite Aid Corp.'s bonds. Its 7 5/8% notes due 2005 were quoted at 93.5 bid/94.5 offered, up from 91 bid/92 offered on Monday. Its 7 1/8% notes due 2007 were a point better, at 86.5 bid, with its 6 7/8% notes pegged around 74 bid, up from recent levels nearer to 70.

The Camp Hill, Pa.-based drugstore chain operator on Monday announced plans to sell $200 million of eight-year notes, with proceeds going to pay some debt and for general corporate purposes.

On Tuesday, Rite Aid reported a healthy 5.7% increase in same-store sales in January, and a 3.6% rise in overall sales (including those stores which have not been open a year yet). It also lowered its sales guidance for the fourth quarter because of current trends. But Moody's affirmed the company's current senior notes rating at B3, with a steady outlook, and Standard & Poor's affirmed its corporate credit at B, and rated the proposed note issue B- .

Outside of the retailing world, gaming companies with Atlantic City exposure were seen lower, after Gov. McGreevey - looking for ways to close a $5 billion budget gap - proposed raising the tax on casino revenues 10% from 8% currently, which could bring another $90 million into the depleted Trenton treasury. And the governor is eyeing another $45 million that would be raised by taxing "comps" - the complementary rooms and meals given by casinos to high rollers to encourage them to come and drop thousands of dollars at the tables. McGreevey also proposed a also proposed a new 7% percent tax on hotel rooms; however, it was not immediately certain whether this would apply to Atlantic City, which already has its own municipal hotel tax.

While all of the Atlantic City operators would be negatively affected, perhaps the biggest loser would be Trump Hotels & Casino Resorts Inc., which has three big casinos in the seaside city - most of the company's gaming operations, which also includes a Chicago-area riverboat operation.

The Trump A.C. 11¼% first mortgage bonds due 2006 fell to 75.5 bid/76.5 offered from Monday's levels at 78.5 bid/79.5 offered. The prospect of higher gaming taxes

Other gamers with Atlantic City exposure include Resorts International Hotel/Casino, whose 11½% notes due 2009 were quoted down three points, at 88 bid.

Aztar Corp.'s 9% notes due 2011 were slightly weaker, at 102.75 bid, while Boyd Gaming's 8¾% and 7¾% notes due 2012 were each seen unchanged, at 104.5 bid and 99 bid, respectively. While Aztar has one hotel in Atlantic City, the Tropicana, and Boyd is building one, the Borgata, as a joint venture with MGM Grand, both companies have most of their gaming operations in Las Vegas and other venues.

The same holds true for Park Place Entertainment Corp. and Harrah's Entertainment Inc., which along with Trump are the biggest multiple operators in Atlantic City. A trader said their bonds were unseen, firstly because most of their debt, but for a few subordinated issues, is investment grade, and secondly "because they're much more diversified than Trump," with casinos in Vegas and other locations.

Also among the gambling companies, Argosy Gaming's 9% notes due 2011 were unchanged at 106 bid; the Alton, Ill.-based riverboat casino operator posted fourth-quarter net income of $16.5 million (56 cents per share) - up slightly from the 55 cents per share analysts had been expecting, but down from $20.7 million (70 cents per share) a year ago. Argosy also warned that it would likely earn just 45 to 50 cents a share in the first quarter - less than the 60 cents a share analysts have been predicting - due to the impact of higher tax rates imposed by several Midwestern states where the boats operate.

Level 3 Communications Inc. posted a sharply narrower fourth-quarter loss than it saw a year ago; the Broomfield, Colo.-based telecommunications operator lost $313 million (73 cents a share), less than a tenth of last year's net loss of $3.28 billion ($8.54 a share), although most of that year-earlier loss - $3.24 billion - was due to restructuring and impairment charges.

Excluding special gains and charges this time around, Level 3 said its loss would be $240 million (56 cents a share), less than its previous projection for a loss of 70 cents a share and analysts' expectations of a 67 cent per-share loss.

But while Level 3's benchmark 9 1/8% notes due 2008 surged as high as 64 bid/66 offered Tuesday from prior levels around 61 bid/63 offered - "people seemed to like the earnings," a trader observed, in the end "they gave a little back" to end at 62 bid/63 offered.

Buyers "tried to run them up - but it didn't work," another trader said, in noting the issue's fall back from its peak levels.

Also among the telecommers, Time Warner Telecom's 10 1/8% notes due 2011 pushed up to a closing level of 63.5 bid without any offers seen, from prior levels at 61.5 bid/63, despite the Littleton, Colo.-based operator's having suffered a far sharper fourth -quarter loss of $243.7 million ($2.12 a share), versus $32.5 million (28 cents a share) a year ago.

The latest loss included a $212.7 million charge to write down the value of some network assets; excluding such special items, the loss was a more manageable 27 cents a share, better than expectations.

A trader saw Nortel Networks Corp.'s 6 1/8% notes due 2006 "giving back some ground" to end two points lower, at 86 bid/87 offered, while rival telecom equipment maker Lucent Technologies Inc. - whose bonds often move in tandem with Nortel - was unchanged, its 7¼% notes due 2006 closing bid around 79.5-80.

Continental Airlines' 8% notes due 2005 were seen down about a point or so, at 53.5 bid.

In the primary, TRW Automotive's four-piece deal - approximately $1.4 billion of 10-non-call-five seniors and subordinated notes - hogged the high-yield primary road during Tuesday's session, as talk and tranche-size took a spin around the market.

Price talk emerged Tuesday on all four tranches of TRW Automotive's offering.

Talk is for a yield in the 9½% area on the $700-$800 million of senior notes (B1/B+) while the €200-€250 million of senior notes (B1/B+) are being talked at 75 basis points behind the dollar-denominated seniors.

Price talk on the $250-$300 million of senior subordinated notes (B2/B+) are talked at 175-200 basis points behind the dollar-denominated seniors, while the €100-€150 million of senior subordinated notes are talked at 75 basis points behind the dollar-denominated senior subordinated notes.

JP Morgan, Credit Suisse First Boston, Lehman Brothers, Deutsche Bank Securities Inc. and Banc of America Securities are joint bookrunners on the deal to help fund the $4.725 billion acquisition of the Livonia, Mich. auto parts supplier by the Blackstone Group.

The deal, which is set to price Thursday, will serve as a bellwether according to one sell-side source.

"How well the TRW deal gets done will gauge the health of the primary market in February," the official commented. "It also has important implications regarding the rebound of LBO activities in 2003."

One buy-side source who spoke to Prospect News on background Tuesday said that the TRW offering appears to be running fine.

"I hear the deal is going well," the investor said. "There will be demand from the perspective that it's large, therefore liquid and non-toxic. And there probably still is plenty of cash around.

"Auto parts suppliers were somewhat weaker today, but I don't see the price talk getting any higher on TRW. I wonder if the weakness was people selling to make room in their portfolios for another auto parts supplier?"

Also during Tuesday's session Sidney, Australian yeast-maker Burns Philp was heard to be on the road with $150 million of eight-year-non-call-four senior subordinated notes (B3/B-) via Credit Suisse First Boston, to be issued via Burns Philp Capital. Proceeds will be used to help fund the hostile takeover of Goodman Fielder.

Last June the company brought what was reportedly the biggest Australian junk bond deal in the history of the market, also via Credit Suisse First Boston, when it priced $400 million of 10-year senior subordinated notes at 9¾%.

Finally on Tuesday news circulated that market that Rite Aid Corp. stirred in an extra $100 million to its quickly marketed Rule 144A offering.

The Camp Hill, Pa. drugstore operator plans to price $300 million - increased from $200 million - of second lien senior secured notes due 2011 (B3/B-) on Wednesday, via Salomon Smith Barney. The price talk is 9¾% area on the drive-by deal.

The second of two buy-side sources who spoke to Prospect News on background Tuesday commented that the market seemed "quiet."

"It feels like maybe we're having another redemption week underway," this investor said. "You need to line up the cash available to buy the new big deals: Crown Cork and the TRW.

"It looks to me like you're seeing a little light selling of some of the premium issues that are a little lower yielding, and people have profits in."

This source, who will not be participating in the TRW transaction because the company is private and because of wariness with regard to an auto parts credit, specified that the performance of the high-yield market in 2003 hinges to a great extent on the performance of the U.S. economy.

"Right now things look muted," the buy-sider added. "So it's hard to see how we can have much narrowing in spreads until it's clear that the equity market is doing better."

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