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PRODUCTS: EXPANDED DEBT CAPACITY (Affordability Products)

Amsterdam Institute of Finance Joseph V. Rizzi October, 2014. PRODUCTS: EXPANDED DEBT CAPACITY (Affordability Products). Expanding Debt Capacity.

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PRODUCTS: EXPANDED DEBT CAPACITY (Affordability Products)

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  1. Amsterdam Institute of Finance Joseph V. Rizzi October, 2014 PRODUCTS: EXPANDED DEBT CAPACITY(Affordability Products)

  2. Expanding Debt Capacity Rising purchase price multiples and ROE concerns drove acquirers to seek ways to expand their debt capacity. Some of the most common techniques are: • Adjusted (Increased) EBITDA - Operating improvements - Normalization • Asset Sales - Bridges to asset sales - Liquidity is key in case bridge cannot be taken out • Innovative Securities - Defer interest - Push out amortization - Increase flexibility 2 2 Amsterdam Institute of Finance October, 2014

  3. Debt Options The above table shows the features of different debt options available to issuers The availability of the different options is subject to market conditions 3 Amsterdam Institute of Finance October, 2014

  4. Structure of an LBO Transaction Target company (2) LBO financing package Players 100% = 30 (equity) + 70 (debt financing) Equity 30% LBO funds (1) Debt financing 70% Senior debt 60% Banks Debt financing 70% Leverage effect =debt/EBITDA =70/12 =5.8 CLO Second lien loans 5% Hedge funds Subordinated debt 5% Mezzanine funds (EBITDA 12%) High Yield, PIK Public Markets Amsterdam Institute of Finance October, 2014

  5. Complex Corporate Structure Equity #1 Equity #2 Equity European Holding Company United States Holding Company Preferred Stock NEWCO High Yield/Sub Notes Collapsed After Closing Bank Deal with Upstream Guarantee United States Target Guarantee Due to the structural nature of Subordination in Europe, bank Debt would be placed at the Operating subsidiary level. Domestic Operating Subsidiary Domestic Operating Subsidiary Foreign Operating Subsidiary* Domestic Operating Subsidiary * Tax limitations surrounding guarantees from foreign subs. Amsterdam Institute of Finance October, 2014

  6. Innovative Securities Institutional Investors/Relative Value Considerations • Innovative securities allow for the expansion of debt capacity by one or more of the following mechanisms: • Reduce Annual Debt Service - Reducing cash interest expense - Lengthen duration (Reduce/Delay amortization) • Increasing Flexibility - Covenants - Public Disclosure - Cash flow control - Call Premium - Bridging - Partial/fully Unsecured • Tranching (sequential ordering of payment or priorities) - Holding Company instruments - Restricted Subsidiaries - Second lien/bifurcated collateral-crossing liens - Senior/Subordinated • Cost – Second Lien vs Mez 6 6 Amsterdam Institute of Finance October, 2014

  7. European LBO Transaction Structures(PF Debt to EBITDA) Total FL 2L Other 1H14 5 4 0.5 0.5 2013 4.75 3.9 0.1 0.75 2012 4.8 3.6 0.1 0.9 2011 4.5 3.8 0.1 0.6 2010 4.5 3.5 __ 1 2009 4 3 __ 1 2008 5.1 3.6 0.5 1 2007 6 4.5 0.5 1 2006 5.5 4.2 0.3 1 2005 5.3 4 0.2 1 2004 4.5 3.5 __ 1 Amsterdam Institute of Finance October, 2014

  8. Second Lien Loans • Senior Secured, but with Junior or Second Lien-Lower recovery • Competing with EURO Mezzanine • Investors – hedge funds and CLO • Spread differential between Second Lien and First Lien currently around 325 BP • Volume: U.S. 1H14 $24B v YE06 $28.3B EUR 1H14 $1.1B YE07 $18.6B • Issues: - Inter-creditor - Standstill Agreement - Obligations - New Investors Behavior in a Workout - CLO Rating Impact Amsterdam Institute of Finance October, 2014 8 8

  9. Covenant Lite • Covenant Issues • Creditor – preserve deal; recovery value • Debtor – flexibility • Covenant Lite – liquidity vs. structure • Similar to Investment Grade • One or No Financial Covenants • Rating Agency impact on CLO • Volume • US – Now dominant form >90% • Europe – Majority of new issuance >50% • Almost no incremental yield over first lien loans with financial covenants 9 9 Amsterdam Institute of Finance October, 2014

  10. ‘OpCo \ PropCo’ Financing (1) By structuring the financing of a pool of assets with a credit quality stronger than the corporate credit as a whole, ‘OpCo’ \ ‘PropCo’ financing can provide a cost effective source of (acquisition) financing. • Example:- • Target company de-merged into ‘PropCo’, which owns the real estate assets, and ‘OpCo’, the operating company. • Banks finance ‘PropCo’ acquisition of properties at agreed Loan to Value ratio. • ‘PropCo’ leases the real estate assets to ‘OpCo’. • ‘PropCo’ debt refinanced by traditional Property Lenders or via Commercial Mortgage Backed Securities (CMBS) market. • ‘OpCo’ required to service the acquisition debt not assumed by ‘PropCo’. • REIT 10 10 Amsterdam Institute of Finance October, 2014

  11. ‘OpCo \ PropCo’ Financing (2) BidCo Notes Financing Approx. 100% Approx. 100% PropCo OpCo Rental Payments 11 Amsterdam Institute of Finance October, 2014

  12. Whole Business Securitization Requirements: • Stable and resilient cash flows from business • Control over cash flows through sale of assets or adequate legal structure • Target investment grade rating to maximize access to investors and lower cost of capital Different leverage measurements Issues • Favorable bankruptcy laws • Inter-creditor issues • Flexibility Availability: Difficult Post Crisis; primarily UK 12 12 Amsterdam Institute of Finance October, 2014

  13. High Yield Bonds • Longer Term Bonds • 7-10 years and longer • 4/5 NC • Public or Private • Usually issued in private form with exchange rights • Pricing would step up if bonds not public within short period (say 180 days of close) • Markets • Issuance ($) Market Size • 1H14 2013 1H14 • U.S. $175B $325B $1.4T • Euro $ 75B $100B $400B 13 13 Amsterdam Institute of Finance October, 2014

  14. Key High Yield Terms • Registration Rights • Issuer • Status • Degree of Subordination • Limitations on liens • Limitations on indebtedness • Restricted payments • Asset sales • Change in control 14 14 Amsterdam Institute of Finance October, 2014

  15. European Mezzanine Terms(Currently dead due to 2L loan competition) Covenants * Extensive (bank type) * Maintenance basis (tested quarterly) Security * Second secured Call Provisions * Generally callable immediately (103,102,101) Maturity * Ten year Pricing * LIBOR + * Warrants for total return * TBD Liquidity * Low Disclosure: * Limited Marketing * No research coverage, no roadshow Rating Requirements * None 15 15 Amsterdam Institute of Finance October, 2014

  16. PIK • Pay if you can toggle • Ratings – NR or CCC • Eats up equity • Holding Company Issuer • Characteristics 16 16 Amsterdam Institute of Finance October, 2014

  17. Stapled Financing Amsterdam Institute of Finance October, 2014 Staple financing term sheet to deal book Be prepared to fund Establishes ceiling Conflicts of interest 17 17

  18. ACCORDIAN LOAN • Incremental Loan Facilities • Option allowing increase in principal under existing terms subject to • certain conditions • Existing lenders can participate or new lenders can be sought • Dilution of Lender Interest • Uncommitted – access requires lenders willing to provide • Suffer dilution if you elect not to participate and facility approved Amsterdam Institute of Finance October, 2014

  19. Bridge Loans • Equity • Bank provides equity • Find other equity investors later or keep • Reduce PE equity • Lowers need for club or larger deals • Rationale – pay to play • Bonds 19 Amsterdam Institute of Finance October, 2014

  20. Changing Nature of Leveraged FinanceCapital Structures • 2012 - Present • Common equity • Hybrid preferred (0.5x) • PIK notes (0.5x) • Unsecured/mezzanine (1x) • Carve-out collateral (1x) • - securitization • - OPCO/PROPCO • Second lien loans (1x) • Senior secured bank loan (4x) • - Amortizing T/LA – 20% • - B/C tranches – 80% • 2004 + 2H07 - 2011 • Common equity • Unsecured/mezzanine (1x) • Senior secured bank loan (4x) • - Amortizing T/LA – 40% • - B/C tranches – 60% FDX – 5x + PPX – 7.5 + FDX – 6x + PPX – 8.5 + • Increasing layers of debt • Directed at different investors • Intercreditors conflicts 20 20 Amsterdam Institute of Finance October, 2014

  21. HCA: Structuring in Action • EBITDA/I – 1.9x (2007E) • EBITDA – CAPEX/I – 1.1x (2007E) • HCA – 33 bln USD (corp rating B2/B+) • FDX – 6.53x (LTM) • PPX – 7.7x • Club – Bain, KKR, ML (5 bln) • W/W – BofA, JPMC, Citi, ML • Debt Package 21 21 Amsterdam Institute of Finance October, 2014

  22. HCA Legal Structure Sponsors Management Healthtrust Holdings Equity Merge Acquisition Corp HCA, Inc Bank Loans Existing Notes Sub D Sub E Sub A Sub B Sub C European subs Euro T/L Restricted subs (guarantors) Unrestricted subs 22 Amsterdam Institute of Finance October, 2014

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