As the credit markets began to free up early this year, tobacco giant Altria Group jumped at the chance to refinance a $4.3 billion bridge loan that was scheduled to come due at the end of 2009. In February, the company replaced the debt, which had been used to finance last year’s $11.7 billion acquisition of smokeless tobacco company UST, with $4.2 billion in longer-term bonds. Altria took advantage of the first easing in credit spreads since the credit crisis began nearly two years ago.
The company’s BBB+ offering included $525 million of five-year notes priced to yield 587.5 basis points more than comparable Treasury securities, $2.2 billion of ten-year notes yielding 675.5 basis points more than Treasuries and $1.5 billion of 30-year bonds priced at 650 basis points over comparable Treasuries. That was a somewhat better deal than the one Altria got in November, when it issued $6 billion in bonds, including $1.4 billion in five-year notes at 600 basis points above Treasury notes.
Of course, rates remain high by historical standards. Spreads are about three times higher than they were during the summer of 2007, according to Standard & Poor’s. And Altria pays a premium over similarly rated companies because it runs the risk of tobacco-related litigation, says Wesley Moultrie, a credit analyst at Fitch Ratings. For example, Marathon Oil Corp.’s spread was more than 100 basis points lower than Altria’s when it issued $700 million in BBB+ rated five-year notes at about the same time in February. “We are looking at a paradigm shift in terms of the cost of capital,” says Clifford Fleet, vice president of investor relations at Altria, formerly known as the Philip Morris Cos. “All companies have to adjust to that new reality.”
Altria is just one of many companies rushing to take advantage of the slight easing in credit markets. Standard & Poor’s says composite credit spreads for investment-grade debt narrowed from just over 600 basis points at the beginning of the year to just under 500 basis points on March 17. Taking advantage of the lower rates, investment-grade companies in the U.S. sold $298 billion of bonds from December to February, compared with just $78 billion during the previous three-month period, according to data provider Dealogic. It was the heaviest spate of issuance in any three-month period since the financial crisis took hold in August 2007.
The investment-grade debt issued during the past few months contains strict conditions that would have been unthinkable before the credit crisis. For example, if Altria undergoes a change of control, it is required to offer to repurchase the notes at 101 percent of the principal amount, plus accrued and unpaid interest. Should its debt be downgraded, the company is obliged to pay an additional 25 basis points of interest for every notch that its rating falls below investment grade. So much for the days of covenant-lite.
The offering was oversubscribed, according to co–lead managers JPMorgan Chase & Co. and Goldman, Sachs & Co. “We see similarly rated credit as offering the best values relative to risk,” says Daniel Fuss, vice chairman of Loomis, Sayles & Co. and co-manager of the Boston-based $13 billion Loomis Sayles Bond Fund, which owns Altria debt issued in November but not any of the February issue. Loomis declined to say why it didn’t purchase the latest debt.
Now that refinancing is out of the way, Altria can focus on its core business, which has undergone a dramatic restructuring. It spun off Kraft Foods in 2007 and Philip Morris International in 2008. With the UST deal, Altria created a new empire that dominates the two largest tobacco market segments in the U.S. Its Philip Morris USA subsidiary has 50.7 percent of the retail cigarette market, while UST boasts 57.4 percent of the moist smokeless tobacco market.
The latest refinancing leaves Altria with debt equal to about 1.4 times its earnings before interest, taxes, depreciation and amortization. It shouldn’t have a problem covering its interest expense.