Current Developments in Distressed M&A Strategies and Techniques

Adam Dunayer
September 16, 2005

Factors Driving the Distressed M&A Market

Capital Structure Dynamics
Multi-layered capital structures multiple liens Traditional (par) holders vs. Secondary (likely at a discount) holders Fulcrum security generally sets overall direction Need and availability of new capital from existing capital structure constituents / third party financing realities

Marketability of Assets
Industry valuations Current EBITDA levels vs. historical or potential EBITDA levels after business changes Interest of strategic buyers / availability of private equity capital Overall lending environment

Industry Conditions
Confidence in underlying business plan and management team Current point in the business cycle
Current Developments in Distressed M&A Strategies and Techniques

Historic Volume of Bankruptcy M&A

500

$ 4 1 ,9 2 0

$ 4 0 ,0 0 0
$ 3 8 ,2 4 0

Net Debt of Target (in millions)

375

$ 3 3 ,6 9 3

Number of Deals

$ 3 0 ,0 0 0
$ 2 8 ,0 0 2

250

$ 2 4 ,2 9 0

$ 2 0 ,0 0 0

125

$ 1 0 ,0 0 0
$ 9 ,0 5 2 $ 9 ,2 1 1 $ 2 ,8 2 9 $ 3 ,6 1 4

$ 4 ,8 9 2

$ 5 ,5 7 4

$0 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005*
2005 data annualized through August. Source: Thompson Financial. All domestic mergers and acquisitions effectuated from bankruptcy from 1/1/1995 8/31/2005. Excludes equity carveouts, exchange offers, and open market repurchases.

Current Developments in Distressed M&A Strategies and Techniques

Notable Distressed M&A Transactions Announced in 2005

09/01/05 Astaris LLC has agreed to sell its assets to Israel Chemicals Ltd. for $0.3 billion. 08/26/05 Special Metals Corp has agreed to sell its assets to Precision Castparts Corp for $0.5 billion. 06/30/05 WestPoint Stevens Inc. has agreed to sell its assets to American Real Estate Partners LP for $0.7 billion. 05/19/05 US Airways Group Inc. has agreed to sell its passenger airline assets to an investor group including America West Holdings Corp, ACE Aviation Holdings Inc, PAR Investment Partners LP, and Peninsula Investment Partners LP, among others, for $1.5 billion. 04/21/05 Adelphia Communications Corporation has agreed to sell its remaining assets to Time Warner Cable and Comcast for $17.6 billion.
Current Developments in Distressed M&A Strategies and Techniques

Capital Structure Dynamics

Fulcrum security generally drives the direction of the overall restructuring process Senior secured lenders are more proactive and aggressive than in the past Holders of senior secured debt no longer restricted to traditional bank lenders
Robust secondary distressed bank debt market

Secondary purchasers less interested in longer term banking relationships

Current Developments in Distressed M&A Strategies and Techniques

Capital Structure Dynamics (Cont.)

Secondary purchasers may accept greater risk for greater reward Secondary purchasers are generally more bankruptcy savvy Companies may have liquidity deficits in order to refinance secured debt with new third party debt
New equity capital may be required, secondary debt purchasers may elect to invest new equity capital in lieu of pursuing a sale of the company to maintain ownership and/or control Sell assets vs. restructuring is generally driven by whether the fulcrum security holders want to own the business

Current Developments in Distressed M&A Strategies and Techniques

Capital Structure Case Study Jackson Products

($ in millions)

Pre Restructuring Bank Debt Senior Secured Subordinated Debt Senior Subordinated Notes Total Debt $90.2 15.8 115.0 $221.0 Revolver Term A Term B Term C Total Debt

Post Restructuring $9.4 12.0 41.0 20.0 $82.4 13.7 $96.1 Equity 32% 41% 27% 3.7 x

New Equity Capital Total Capital Senior Secured Subordinated Debt Senior Subordinated Notes New Money Invested Total Debt to EBITDA 9.9 x Total Debt to EBITDA

Current Developments in Distressed M&A Strategies and Techniques

Marketability of Assets
Strategic buyers can generally out-bid financial buyers as a result of revenue or cost synergies However, financial buyers generally move faster and are more deal savvy than strategic buyers There is a significant amount of private equity capital on the sidelines that is looking for deals Current lending environment is very strong even for troubled companies Currently, valuations for control positions in companies are relatively high and there are many buyers with significant capital looking to invest in acquisitions
Current Developments in Distressed M&A Strategies and Techniques

Industry Conditions
There are businesses in industries in which a stand-alone restructuring is not perceived as viable or value maximizing alternative Many financial institutions are no longer willing to support speculative business and operating plans Capital structure constituents are often concerned about selling at the bottom of the business cycle

Current Developments in Distressed M&A Strategies and Techniques

Distressed M&A/Restructuring Issues to Consider

Selection of an Investment Banker
Expertise in distressed situations Long standing relationships with strategic and financial buyers and lenders Committed senior level bankers Sell vs. Restructuring Passage of times effect on value Value maximizing alternative (i.e. current sale value of business vs. theoretical post Chapter 11 sale value) Desire of fulcrum security Other considerations (e.g., need for and availability of new capital) Identification of Buyer Universe Strategic buyers vs. financial buyers Broad vs. limited / targeted marketing process (confidentiality issues)
Current Developments in Distressed M&A Strategies and Techniques

Distressed M&A/Restructuring Issues to Consider (Cont.)

Selection of a Stalking Horse
High vs. low offer value (i.e., affect on auction dynamics) Ability to close Other considerations (e.g., non cash consideration such as assumed liabilities)

Purchase Agreement Considerations

Break-up fee (approximately 1-5% of transaction of value) Non-refundable deposit (5% - 20% of transaction of value) Working capital adjustment considerations No outs structure No financing, MAE, or MAC out provisions

Auction Procedures
Overbid procedures Treatment of break-up fee in auction Timing
Current Developments in Distressed M&A Strategies and Techniques

Conclusion
Distressed M&A has become a critical source of liquidity in trouble situations Restructurings where large amounts of debt are equalized are becoming more common We expect an increase in the volume and pace of Distressed M&A activity Distressed M&A will become an even more important segment of the broader M&A and restructuring markets

Current Developments in Distressed M&A Strategies and Techniques