British restaurant chain operator PizzaExpress has managed to swiftly raise £610 million ($1 billion) to fund a leveraged buyout by Chinese private equity firm Hony Capital despite weakening high-yield bond markets.
Hony agreed in mid-July to buy PizzaExpress for about £900 million ($1.54 billion).
The well-known PizzaExpress brand, recovering consumer spending at UK restaurants and Hony Capital’s ambitions for the company in China offset volatile junk bond markets whilst the British firm was marketing itself with investors.
“Pizza Express has a very mature business model and has been bought and sold a number of times – so it is well understood,” said Hony Capital’s chief executive John Zhao in an interview with FinanceAsia. Zhao declined to talk about the financing details.
PizzaExpress is the latest cross-border deal by Beijing-based Hony, which is using its local know-how to help western brands expand in China.
“This transaction shows Asian buyers have more options when looking to finance overseas assets,” said one person familiar with the transaction.
Hony closed a $3 billion take-private of New York-listed Chinese online gaming company Giant Interactive earlier in July alongside Giant Interactive chairman Yuzhu Shi and Baring Private Equity Asia. The consortium partly financed the take-private with an $850 million loan.
“We found it very easy to tell the story. People jumped in quickly and we got it fully subscribed,” said Zhao describing the Giant marketing process.
Testing times
PizzaExpress refinanced its existing capital structure by raising £610 million in notes.
The issue was split between a £410 million secured seven-year high-yield bond, with a leverage ratio of 4.3 times, and a £200 million unsecured eight-year note, with a leverage of 6.5 times, according to people familiar with the matter.
The leverage was relatively high and certainly higher than Hony would normally have been able to achieve in Asian bank-dominated loan markets were two to three turns is more typical.
The secured note had a coupon of 6.6% and a highly speculative credit rating of B+/B2; the unsecured note had a coupon of 8.6% and a substantially risky rating of CCC+/Caa1.
The financing was one of the biggest ever sponsor-backed sterling high-yield packages; others being Advent International’s £600 million high-yield bond for the buyout of the celebrity rehab centre The Priory and Apollo’s £640 million financing of estate agent Countrywide in 2007.
The bonds were also the fourth-biggest in a sponsor-backed acquisition across Europe so far this year, according to data provider Dealogic.
Both tranches were multiple times oversubscribed within the first two days of the roadshow in London and the banks, which had underwritten the acquisition financing, were able to close early and avoid further exposure to volatile markets. Meetings with potential investors in Hong Kong were canceled.
The level of demand and speed of execution was particularly notable given rough high-yield bond markets over the past week due heightened risk awareness following escalating violence in eastern Ukraine. Federal Reserve Chair Janet Yellen’s warning, that she saw signs of bubbles forming in the leveraged loan market and high-yield bond markets, had also unsettled investors.
PizzaExpress priced while a couple of other deals were pulled due to lack of demand.
Investors were also initially unfamiliar with Hony and were worried that it might take out dividends or make other debt-fueled acquisitions that would curtail its ability to service debt. Meetings in London between the issuer and potential investors helped alleviate concerns about Hony, which is backed by Legend Holdings, owner of Lenovo.
Extensive pre-marketing also helped early momentum and the bonds priced at the tighter end of the range.
JP Morgan, Deutsche Bank, Goldman Sachs (who advised Cinven) advised PizzaExpress on the financing according to data provider Dealogic. Bank of China was a co-manager. JP Morgan was also the sole financial adviser to Hony on the M&A and ratings advisor to PizzaExpress.
Home turf
Credit investors were particularly interested to learn more about the finances of PizzaExpress in its home market, where the chain runs 436 restaurants and generates more than 95% of its Ebitda.
Hony’s Zhao sees a cyclical recovery driving about 8% growth in the British casual dining sector.
To be sure UK restaurants are highly competitive, cyclical and relatively mature so the main driver of growth at PizzaExpress going forward will be expansion in emerging markets.
“The casual dining category is probably going to be the fastest-growing sub-segment of the restaurant sector in China,” said Zhao. PizzaExpress plans a further 200 restaurant openings in the UK and another 200 across key growth markets such as China and India, according to its interim report.
China’s rapidly expanding middle class is demanding higher-quality, safer and a wider variety of foods, meaning consumers tend to favour western brands. “The quality and level of service will be the major attractions when we open more stores in China,” said Zhao.
To be sure, western brands aren’t all infallible: McDonalds halted nuggets sales in Hong Kong during July after importing chicken from a Chinese firm that had allegedly sold it out-of-date meat.
What’s on the menu?
Hony bought PizzaExpress from London-based private equity fund Cinven, which had taken the restaurant chain private in 2007 for €1.34 billion ($1.77 billion).
As a secondary-buyout there is little room for more cost cutting said people familiar with the private company’s accounts.
“Cost cutting is not why we bought this company, we bought it for growth,” said Zhao.
Hony is also unlikely to alter the efficient PizzaExpress operating model, which is based on a relatively standardized menu and keeps down the cost of ingredients.
“We’re not going to replace the menu with Chinese ingredients or a Chinese menu per se. We bought it to present the best quality and safety to China,” said Zhao although he added: “There will probably be a small portion of local content.”
Credit rating agency Standard & Poor's gave Pizza Express' holding company Twinkle Pizza Holdings Plc a preliminary 'B' long-term corporate credit rating.
Standard & Poor's expects that the company's adjusted debt to Ebitda will remain stable at over nine times (over 6.5 times when excluding the shareholder loans) and Ebitdar coverage will remain around 1.7 times.
The credit-rating agency also forecast PizzaExpress will continue to maintain free cash flow generation in excess of £30 million, even after expansion Capex.
“PizzaExpress will be able to achieve moderate Ebitda growth and maintain free cash flow generation, thanks to positive like-for-like sales growth in an improving macroeconomic environment in the UK, new store openings, and stable Ebitda margins,” said Standard & Poor's credit analyst Raam Ratnam.
