Verisure’s bond issuance shows some alarming signs

Verisure is a Swedish home alarms company owned by the US private equity house Hellman & Friedman. They are looking to raise €1.8billion of new debt in the form of high yield bonds and leveraged loans to fund the dividend and repay some existing debt. Verisure is expected to launch its €1.45 billion senior unsecured bond with the deal documentation containing a provision that would allow it to pay a further dividend on top of the jumbo pay out the trade itself will finance. Hellman and Friedman, who secured control of the Swedish company in 2015, are having to pay fees because the terms of Verisure’s existing bonds forbid such a large dividend payment.

Verisure’s main competitor is Sector Alarm Group, another major European home alarms company with Scandinavian roots. Sector Alarm were listed as the second largest security company in 2014 and have grown exponentially through mergers and acquisitions. From 2014 to 2016 they acquired Irish PhoneWatch, Swedish Safe Home and Swedish G4S. They have recently announced the acquisition of a Spanish home alarm company Alarma Universal. This new growth venture into Spain highlights their growth strategy through further acquisitions but also shows growth through their own sales force as well. Each acquisition contributes to the creation of a solid platform for future synergies in each country.

Verisure’s bond deal is one of the biggest news in the European junk bond market this year. With the quantitative easing by the European Central Bank, yields for junk bonds have been driven to an all time low of 2%. With leveraged loans being popular in the market, many companies have switched from bonds to loans instead as means of raising capital.Growth trends show that Verisure has been performing admirably. Sustained growth shows that they can perform in the uncertain and challenging macro environments. Under H&F's ownership revenue has more than doubled from €577 million in 2010 to €1.3 billion for the year ended June 30, 2017, while the company’s customer base has nearly doubled from 1.4 million six years ago to 2.3 million in this year. Headcount at Verisure has also doubled over the six-year period to 11,000 in 2017. All these factors are a strong indicator that Verisure is in a good position to afford a higher leverage with the issuance of the new bonds. Bondholders are also likely to benefit from a large issuance of dividends, as the main purpose of the €1.825 billion raised in high yield bonds and leveraged loans is to pay €1.05 billion in dividend to shareholders. This is one of the largest issuances of dividends since the financial crisis.

However despite appearing to be in a buoyant enough position to afford more debt, market players are reportedly urging bondholders to reject the deal. It is worth noting the consent solicitation process behind the issuance of higher dividends. Junk bond investors usually demand restrictions on how much debt a company can incur to minimize risk, thus there were terms in Verisure’s existing bonds that don’t allow for such a large dividend payment. In order to overcome these restrictions, the company is offering bondholders a fee to waive and amend the terms through a process known as “consent solicitation”. The fees offered to the bondholders with this new agreement is much lower than the prepayment premiums Verisure would have to pay if it chose to refinance the bonds. Despite the disadvantage to the existing bondholders, many chose to agree in order to secure a good allocation in the new bond issuance. The consent solicitation also draws on a pool of cash that will be split between whichever bondholder consents. If all bondholders agree, this equates to a 1.5% fee, but if the agreement barely passes with the minimum required 50.1% of consent from bondholders, the fee paid will be effectively doubled to 3%. This structure made it difficult for bondholders to resist the deal, as investors are heavily rewarded if they switch sides to help pass a struggling deal. With strict covenants off the table, there is a much higher risk that can go unchecked.

Earlier this year, GIC, Singapore’s sovereign wealth fund, bought a 9% share of Verisure from H&F. The deal marks the latest example of a buyout house selling a minority stake in an asset to one of its investors. Stake sales let investors return money while also retaining exposure to good investments. GIC has a history of working closely with H&F. With the GIC deal, a dividend recap would be likely to cover H&F’s original equity completely. This becomes a dangerous situation for prospective bondholders, as the main general partner has less to lose if the business goes downhill. H&F can extract value from their investments prior to the actual exit. An example would be when indebted shoe chain Payless went bankrupt in the spring of 2017, there was a court case alleging that debt-financed dividends totalling almost US$400 million led to the company’s collapse. Similar concerns can be valid in the case of Verisure, with the unchecked risks present due to the consent consolidation process.

In conclusion, it is dangerous to invest in the bonds of Verisure, despite the good growth prospects and strong business position. The removal of limits in leveraging due to the consent consolidation process has increased the risks in a situation where the managing partner, H&P, can effectively cover their invested capital and safely exit the business after receiving their dividend payout.

While the payments promised to holders of Verisure’s senior unsecured bond under a process of “consent solicitation” amount to just €9.45m, owners of the company’s “private senior” bonds, which include the Goldman Sachs fund, will receive €28m, according to the terms published for the deal. Some bondholders in Verisure complained that they had been offered far smaller fees to permit H&F to raise new debt to pay itself a €1bn dividend. This news is concerning for individual bondholders as the returns are not that promising as they could be. For this reason the logical course of action would be to sell the bonds especially due to large market players not expressing confidence in this deal.