You can’t pull money out of thin air, but that’s what Sprint Corp. appears to be doing by entering into a sale-and-leaseback agreement for a portfolio of licenses granted by the U.S. government. Of course, it’s not really free money, since Sprint had to pay for the licenses. But just as some companies sell their corporate headquarters to investors and lease them back, the transaction frees up a lot of capital – as much as $7 billion.
The move is also quite a hat trick, in that it gives the company a substantial ratings uplift. The initial $3.5 billion of notes that priced Thursday are rated triple-B by Moody’s Investors Service and Fitch Ratings; they have a weighted average life of approximately three years and a coupon of 3.36%. That’s some 300 basis points less than what the single-B rated Sprint would pay if it had to issue more junk bonds.
The financing also buys the company, which is running an operating deficit and has $9 billion of high yield debt maturing over the next three years alone, some much needed time. In its presale report, Fitch said the spectrum-backed notes are “a critical piece to begin addressing Sprint’s maturity wall in fiscal years 2016 and 2017.”
It’s a deal that few other companies could pull it off, if only because few have the same latitude from their existing investors. Sprint is what is known in financial circles as a “fallen angel,” a company that was once rated investment grade but whose financial condition has deteriorated substantially. And like some other fallen angels, it was able to issue debt with the loose investor safeguards typical of investment grade bonds even after it was no longer rated investment grade.
Among the safeguards “missing” on Sprint’s junk bonds, according to Scott Josefsberg, an analyst at Covenant Review, is a tight restriction on the amount of debt a company can issue that jumps ahead of unsecured bondholders in terms of payment priority because it is secured by an asset.
But in Sprint’s case, Josefsberg said, “the covenants were weak even by investment grade standards.” Notably, he said, there is no restriction on the sale-and-leaseback of assets or on issuance of debt by subsidiaries, both of which are often included in investment grade-style covenant packages.
So not only does Sprint have a smaller cap on issuing secured debt than other high yield issuers; a securitization structured in this way does not even count towards the cap on secured debt.
While Josesfsberg doesn’t cover Verizon or AT&T, both of which carry low investment-grade ratings, it’s unlikely that either have the ability to enter into sale-and-leaseback agreements.
But then, the other wireless carriers wouldn’t necessarily want to securitize their spectrum lease payments, even if covenants on their unsecured debt allowed them to do so. For one thing, they can both issue debt more cheaply in the corporate bond market than Sprint.
“I don’t think that other carriers will do this," said Mark Stodden, the lead Sprint analyst on Moody’s corporate finance team. "It’s not an efficient method for accessing debt and the other carriers don’t have the same market access issues that Sprint does,”
In at least one respect, however, the spectrum lease securitization is a better fit for Sprint than Verizon’s $1.17 billion securitization of handset financing, completed in July: it’s longer term financing. “This is more permanent capital, so that helps Sprint more,” Stodden said.
Here’s how the deal works: Sprint contributed Federal Communication Commission licenses for a portion of its 2.5GHz and 1.9GHz spectrum holdings to three special purpose vehicles. These SPVs lease the collateral back to Sprint under a “hell or high water” lease, which has extremely limited termination rights. They are also issuing bonds backed by the leases as well as a senior guarantee from Sprint and some of its subsidiaries.
The ratings agencies also take comfort from the fact that the spectrum leases are strategically important to Sprint. That means the carrier would likely affirm them in a bankruptcy. The portfolio includes licenses of spectrum in the 2.5 GHz band and the 1.9 GHz band, comprising about 14% of its total spectrum holdings.
There’s also an 18-month liquidity facility that can be used to fund interest payments should lease payments be disrupted during a Sprint bankruptcy or reorganization.
Finally, should it be necessary for the SPVs to sell the spectrum licenses, the rating agencies expect that proceeds would be sufficient to repay all outstanding debt; even if the licenses were sold as significantly stressed recovery levels, proceeds would still allow a high level of recovery on the notes.
However, the sale of some of Sprint’s most valuable assets to a non-recourse entity and guarantee of the lease payments comes at the expense of Sprint's existing creditors. As the spectrum financing debt grows to its maximum of $7 billion, it could affect the rating of Sprint’s junior instruments, in particular the single-B rated junior guaranteed notes, according to both Moody's and Fitch. The ratings of Sprint’s triple-C-rated senior unsecured notes will not be impacted by the spectrum debt, however.
As with a handset finance securitization completed by Verizon this summer, Sprit’s spectrum lease deal blurs the line between corporate bonds and asset-backed securities. For one thing, the ratings “uplift” is limited because performance of spectrum-backed notes more closely linked to performance of the sponsor than other kinds of securitization.
By comparison, many asset-backeds sponsored by below investment grade companies achieve top investment grade ratings, given sufficient credit enhancement. But both Moody’s and Fitch limit the uplift in this deal to four notches. That means, should Sprint’s corporate credit rating be downgraded, the spectrum-backed notes could be downgraded as well.