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Dell, HP Bondholders Could Feel Buyout Pain

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Dell (NASDAQ:DELL) and Hewlett Packard (NYSE:HPQ) bondholders would likely be out of luck in a debt-fueled buyout of either company, according to a Thursday analysis from ratings agency Moody's.

According to a survey of investment-grade technology companies across Moody's ratings universe, Dell and HP have the weakest protections for bondholders -- known as covenants -- which may leave investors most vulnerable to potential debt-fueled buyouts.

Moody's identifies Dell and HP as not having so-called "change of control" protections that would allow current bond holders to be paid back first in the event of a debt-financed acquisition of either company. Meanwhile, the ratings agency also says that the lion's share of Dell and HP's assets could be secured against new debts, exposing holders of both company's bonds to "subordination," a term that signifies they would be paid back after new creditors.

The analysis is especially relevant given strong signs that a consortium involving Dell founder Michael Dell, private equity giant Silver Lake Partners, and Microsoft (NASDAQ:MSFT) could look to take over the struggling PC maker, according to multiple reports first made by Bloomberg News.

Amid speculation of a near $20 billion leveraged buyout of Dell, which Bloomberg recently reported might give Michael Dell control of the company, analysts have also speculated that HP, the world's largest PC maker, could be the target of strategic or private equity investors.
Moody's analysis indicates that those potentially circling either tech company as a takeover target have more leeway to cut a deal than declining earnings and profit margins might indicate.

In particular, a lack of change of control covenants could make it easier for a private equity firm to issue new bonds to finance what would be record post-crisis LBO deals. New debt investors would potentially stand in the front of the line for getting their money back, ahead of current creditors.

The ability to secure assets other than property, plant and equipment such as receivables or revenue streams could also allow a potential private equity investor to pile more debt on Dell or HP's balance sheet than some may expect.

"Dell bondholders are not protected by a change of control put option," writes a team of Moody's credit analysts led by Stephen Sohn. "Furthermore, because Dell's limitations on liens only pertain to property, plant, and equipment, nearly all assets would be available for potential secured financing that would subordinate current noteholders."

The analysts conclude HP's bondholders stand in a relatively similar position.

That contrasts with other investment grade rated tech companies such as Xerox (NYSE:XRX), Computer Sciences Corp. (NYSE:CSC), and Lexmark International (NYSE:LXK), which Moody's says have far stronger protections against change of control and asset or revenue securitization.

Currently, Bloomberg reports Michael Dell may look to take control of Dell by rolling an equity stake in the company worth nearly $4 billion, a further investment of up to $1 billion, and between $1 billion to $2 billion in equity from Silver Lake and Microsoft.

The total equity of the deal, Bloomberg reports, would be between $8 billion and $9 billion, indicating that a similar amount of debt would be needed to take the company over, given Dell's current market cap of $23 billion.

While some analysts have puzzled over how a takeover consortium might be able to raise such financing, Moody's analysis may indicate options for investors, in addition to a still unclear ability to repatriate the near $14 billion in cash and cash equivalents that currently sit on Dell's books.
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