In October 2020, billionaire brothers Mohsin and Zuber Issa, owners of EG Group, together with TDR Capital, announced the purchase of a majority stake in Asda, the UK’s third largest supermarket, that valued the company at £6.8bn. Rishi Sunak was quick to praise the buyers for “returning ASDA to majority UK ownership for the first time in two decades”. It may seem strange to be currently reading about a deal that is now 4 months old but at the time, the buyers did not explain publicly how the bid would be financed. However, the details behind the complex highly leveraged financing package were only recently announced. The financing makes the deal the largest leveraged buyout in the last decade, since KKR’s purchase of Boots in 2007, while the demand for Asda’s high-yield bond sale is indicative of the huge amounts of cash chasing yield where returns on bonds are otherwise few and far between.
Financing the deal
The financing plan revealed on February 3rd involves only £780m of equity from the brothers and TDR combined, to take a majority stake in the supermarket chain valued at £6.8bn. Even the equity stake of £780m is unlikely to be made up of only their own money, with the brothers having raised millions of pounds in November in a complex arrangement through an offshore holding company that owns EG Group. Although Walmart will retain a minority £500m stake in the company, the majority of the cash contribution is from £3.7bn worth of junk debt and asset sales and leasebacks. In many ways, the huge level of debt and minimal equity involved in the deal may be considered unsurprising and unnoteworthy when the nature of the buyers, a private equity firm and pair of brothers with a history of debt-laden takeovers, is considered. However, the deal still stands out for two reasons. It marks a significant change to Asda’s business model, previously (2019) holding no external debt and £3.5bn worth of owned assets. Furthermore, the average leveraged buyout in Europe last year, according to S&P Global, used equity for more than half of the enterprise value of the deal. The level of equity in the leveraged buyout of Asda was not even near this level.
Demand for junk bonds
Asda’s high-yield bond sale of £2.75bn worth of bonds received £8bn of orders, making it the largest ever sterling junk bond. From a debt investors perspective, the investment was highly attractive. The substantial property value of £9bn behind the investment and previously low debt burden of Asda otherwise, combined with a 3.25% return per coupon on the secured £2.25bn tranche and 4% on the riskier £500m bond, is why “it was always going to be a blowout deal” according to a senior manager at Neuberger Berman.
The sheer demand for Asda’s deal is representative of a wider trend in debt capital markets. Aggressive stimulus measures on both sides of the Atlantic, through quantitative easing and lowered interest rates, has hugely lowered the yields on government bonds. Investors and fund managers, unable to generate a meaningful return from safe government bonds, have looked to lower-rated bonds. As demand for these bonds has risen, their prices have risen and their yields have dropped. The average yield across US ‘CCC’ rated bonds dropped to a recent low of 7.6% this month, compared to levels near 20% in early 2020 following the initial pandemic sell-off. The global hunt for higher returns has therefore expanded, enabling even companies hugely impacted by the pandemic like Viking Cruises and Life Time Fitness to issue $350m and $475m bonds respectively this month. The fact that CreditSight analysts recommended the purchase of Asda’s debt, despite seeing its pricing as expensive and “relatively unsustainable”, highlights the sheer lack of returns on offer in the junk bond market.
The Asda deal is therefore interesting on a number of fronts. It is a great example of a textbook leveraged buyout, containing very low levels of equity compared to average leveraged buyouts in Europe. However, more significantly, the sheer demand for its high-yield bond sale demonstrates the huge amounts of money chasing returns on debt. Investors and fund managers seem happy to invest in the junk bonds of companies hugely impacted by the pandemic, as returns in the debt capital markets become increasingly sparse.