Kmart board meets as investors vote with their feet; Williams off on downgrade

By Paul Deckelman and Paul Harris

New York, Jan. 15 - Kmart bonds and shares continued to fall for a fourth consecutive session, even as the troubled retailer's board met to consider financial alternatives, not excluding a possible Chapter 11 filing. Elsewhere, Williams Communications Group Inc. debt retreated after a ratings downgrade, while bonds of two well-known gaming operators also widened out after they were downgraded to junk status.

In the primary market, meantime, as two new deals emerged from Jacobs Entertainment, and TSI Telecommunications, Prospect News heard sell-siders invoke hydrological metaphors such as "trickle," and "flow" (but not "torrent") to characterize the movement of new business onto the forward calendar.

"I think it's going to be a sort of a constant flow of new deals consistently being added to the calendar each week," one syndicate official commented. "I believe that is alright. The market would probably prefer not to see a ridiculous amount of new issuance in a short period of time.

"The market seems good, to me," the official added. "Obviously there are some issues with some individual credits and sectors, but I think that, broadly, there is a good underpinning of support in the secondary market, and there is plenty of liquidity on the buy-side."

On Tuesday Jacobs Entertainment, Inc. announced a new deal for $120 million of seven-year notes (B2/B). CIBC World Markets is running the books. The roadshow runs from Jan. 22-31, with pricing to follow shortly thereafter, according to a syndicate source.

Also on Tuesday TSI Telecommunications, Inc. unveiled a new offering of $245 million 10-year notes (B-), via Lehman Brothers. The notes will hit the road Thursday, with pricing expected during the week of Jan. 28.

Standard & Poor's assigned a B rating to $500 million of PanAmSat Corp.'s senior notes, on Tuesday. The deal, which is coming from Credit Suisse First Boston, and Deutsche Banc Alex. Brown, is set to hit the road during the week of Jan. 21, according to several market sources. That timing was not be confirmed by the syndicate, however. And the size of the new PanAmSat issuance has been heard in a range of $500 million to $900 million. A syndicate source told Prospect News Monday that the company will bring $700 million.

Price talk of 9 3/8%-9 5/8% came out Tuesday on Regal Cinema's $200 million 10-year offering (B3/B-) via Credit Suisse First Boston. Pricing, according to a syndicate source, will take place on Thursday.

On Wednesday, Owens Brockway Glass Container Inc.'s $300 million of seven-year notes (B2/BB) via Banc of America Securities are expected to price.

The market also expects to hear price talk emerge Wednesday on Compton Petroleum's $150 million of 10-year notes (B3/B-). Lehman is running the books on that deal, which is scheduled to price Thursday, market sources advise Prospect News.

In the secondary, Kmart "got whacked again," one market observer said, its widely traded 9 3/8% notes due 2006 dropping to 55 bid from 60 on Monday, as its 12½% notes fell to 60 bid from prior levels around 70 and its 8 1/8% notes closed down several points at 50 bid.

The company's board of directors met Tuesday to consider options which market observers say could include a bankruptcy filing or the closing of some of its approximately 2,100 stores in order to cut costs. Although the financial markets were hoping for some kind of an announcement Tuesday on what the troubled Troy, Mich.-based discount retailing giant plans to do to get its financial house in order, no news was forthcoming by the end of the session, and no announcement had been made by early evening.

Kmart shares - which have lost more than half of their value since the beginning of the year and which are now trading at low levels not seen since the late 1960s - lost another 39 cents, or 13.73% on the New York Stock Exchange Tuesday, closing at $2.45. Volume of 37.1 million shares was about five times the usual daily turnover.

Kmart's bonds and shares have been on the slide almost since the start of the new year, going into a freefall following Prudential Securities equity analyst Wayne Hood's warning that Kmart might have to consider a bankruptcy filing if cash-flow over the new few months doesn't pick up. Its once-split-rated bonds have since been downgraded to weak junk status by Moody's investors Service, which dropped them three notches to B2 on Friday and by Standard & Poor's, which on Monday slashed the ratings four notches to B-.

Speculation over whether the nation's second-largest discount retailer (behind the far larger and more financially powerful Wal-Mart Stores Inc.) might head for the protection of the bankruptcy courts or radically downsize itself by 200 to 400 stores was rife in the financial media Tuesday and even made its way out of the business news section and into broader "hard" news coverage in some parts of the print and electronic media.

One observer said that while the company might want to avoid the stigma of a bankruptcy filing, at the end of the day, it might have no choice. "They're talking about asset sales or shutting down stores," he said, "but those things are best handled in bankruptcy."

While the company might look to avoid a trip to Wilmington by closing some underperforming locations, he indicated that might be easier said than done.

"You can look at a location, and decide you want to close down a store - but you also have to get out of the lease because you can't afford to pay the lease cost. I would sooner sit there and lose money for two years rather than pay out the present value of a lease that lasts for five more years, at some astronomical rate." Were Kmart to bite the bullet and file, he concluded, it might be able to escape such burdens because "in bankruptcy it's different. The rules are all different."

A bond trader said that overall, the junk secondary was fairly quiet Tuesday, "with everyone watching Kmart, " which he quoted down about three to four points across the board on the day.

A trader who specializes in distressed debt said Kmart "went up a little bit this morning - now it's gone back down to the old prices." He said his shop was "buying long (dated) paper between 45 and 47, while the shorter paper is between 50 and 60. It's all over the place."

At another desk, however, a trader said that "a pretty decent amount" of the discounter's debt traded, but he didn't see that much price movement from Monday's levels. He saw the 9 3/8% notes as having opened in the mid-50s, and then pushing down as low as the 40s - a level which he acknowledged "could have been a freak trade" - before ending in the 52-55 bid range. He saw the 8 1/8 paper ending bid around 47-50.

The trader agreed with reports that Kmart's paper "pretty much" seemed to be converging at price levels in the 50-55 area, regardless of maturity; some market observers believe that this is a signal that investors believe a Chapter 11 filing could be in the cards, since all unsecured bonds - which normally vary in price according to their maturity - would rank in the same position in the event of a restructuring, regardless of maturity.

"Any of the liquid bonds - the new ones, or the old off-the-runs from '04 to '06 (maturity) may have found a floor," he said, "since that seems to be where most of them are."

He also saw several structured issues of Kmart paper - i.e., those secured by tangible assets, such as real estate or guaranteed income streams - likewise converging in that same range in the lower 50s. The trader explained that while that paper is secured - Kmart, for instance, while leasing most of its properties, actually owns a relatively small number of the buildings which its stores occupy - structured paper trades in a world of its own, all over the place."

Structured paper, he continued " is where you make your spread, because even though it's secured, the collateral is not the best. The bonds will trade at a huge difference in yield for some of the better collateral backing the bonds versus some of the lower quality collateral, and you really have to know what you're doing to trade those bonds, because some of the collateral is crappy stores in bad locations, likely to go out of business. Once they go out of business, they will not see any of the cash flow on the collateralized stuff, the pass-through notes, so you have to really know what you're doing."

Kmart's woes have ripple effects on other credits, such as those of Fleming Cos. Inc., the Dallas-based grocery wholesaler which has a large contract to supply food and other items to Kmart's stores. While one market source saw Fleming's 10 5/8% notes due 2007 unchanged around the 92 bid level, another saw them down nearly two points around 91. Fleming's bonds this week were put under review for a possible credit downgrade by Moody's, which expressed concern about its dependence on Kmart, which accounts for 20% of its total sales. Fleming in turn has tried to downplay its exposure to possible trouble, noting that its receivables at any one time represent no more than half of one percent of its sales, and stressing the fact that Kmart is current in its bills.

Other retailers, affected by the same industry dynamics as Kmart, are also coming under ratings agency scrutiny; Moody's cut clothing retailer Gap Inc.'s bond ratings a notch to Baa3, the last stop before it crosses the line that separates investment-grade credits from junk bonds. A market-watcher saw Gap's shorter-dated debt, like its 5 5/8% notes due 2003, dipping to bid levels around 94-95 from prior levels above 96; paradoxically, longer paper, like Gap's 8.90% notes due 2008, firmed to about 92 bid from 89. He theorized that "at the shorter end, people were still a little more scared, while at the longer end, they feel that even if they are downgraded, the bonds should maintain their levels."

A trader said Kmart " is the only thing we're doing right now," along with other affected names in that whole retailing complex; another trader said that apart from Kmart, "the story of the day had to be Williams Communications," quoting its bonds down around six points across the board to bid levels in the 38-40 area after Standard & Poor's dropped its bonds to CCC- from CCC+ and said another ratings downgrade might be possible.

In another shop, the Williams 10 7/8% debt due 2009 was seen down three points on the session, at 41 bid.

S&P said the Tulsa, Okla.-based long-haul telecom carrier "requires substantial revenue and cash flow growth in order to meet both its operating and heavy debt-servicing needs. However, growth has not met Standard & Poor's expectations due to the ongoing impact of the weak economy and poor fundamentals of the long-haul data business."

Williams shares were meantime down 22 cents (12.09%) to $1.60 in NYSE dealings.

Xerox's new 9¾% senior notes due 2009 traded around 95 to 95.5 "all day long," a trader said. "The bonds opened there, bonds went out there, and bonds traded in that context all day long."

The new notes, which had priced Monday at 95.167, "banged around a little" near those issue levels, another trader said, pegging them in the 95.25 bid level. Another market source, however, quoted the bonds as having eased to about 94.875 bid. He also saw the Stamford, Conn.-based copier and office machines giant's existing debt, "which has been down a couple of points the past couple of days down a bit more today, about a half to a full point," with its 5½% notes due 2003 and its 7.15% notes due 2004 each down a point at 92.5 bid in the aftermath of the new issue.

Kaiser Aluminum "got hit pretty hard," a trader said, on news that the Houston-based aluminum producer - beset by low aluminum prices - plans to begin discussions with the holders of $799 million of bond debt about restructuring its senior notes. Those talks would begin "within the next few weeks."

The trader said that following Kaiser's announcement, he saw the company's 9 7/8% notes due 2002 offered at par, with no bids seen - a level which he called "a little steep" and the 10 7/8% notes due 2006 offered at 89; he said the bonds were likely to "probably work out somewhere in that mid-80s range. The 12¾% notes were at 70 bid/75 offered, a level which he projected "will surely become cheaper."

At another desk, Kaiser's 10 7/8% paper was quoted as low as 82 bid during the session, well below recent levels in the lower 90s. The 12¾% notes were heard quoted around 75 bid.

After the news came out, a trader said, "all the bids went away." He saw the 9 7/8% notes as having recently held in the 99.5-par bid level "almost like for ever," but reported having bought odd lots of the paper as cheaply as 98 just before the news came out. After that, "I didn't see any bid sides come in. The bids just seemed to leave the market."

Kaiser, in announcing its plans to ask its bondholders for some relief, said its cash-flow and earnings were being adversely affected by "weak market demand exacerbated by the events of September 11 and low aluminum prices, coupled with significant ongoing legacy obligations and near-term debt maturities."

Elsewhere, after Moody's downgraded the debt ratings of Park Place Entertainment Inc. and MGM Mirage on Monday to a junk-rated Ba1 from Baa3 previously, the bonds of both giant gaming companies - generally considered among the star players in a sector largely populated by far lower-rated casino operators - widened out a bit Tuesday. A market observer quoted bid levels on Park Place's 8½% notes due 2006 falling to the equivalent of 325 basis points over Treasuries from 310 basis points previously, while MGM Mirage's debt likewise widened out 15 basis points, the bid level on its 7¼% notes due 2006 going from 275 basis points over Treasuries to 290 basis points over.

Moody's said that both companies' debt protection measures were already "weak," and said this would be further aggravated by a downturn in the tourism industry following the Sept. 11 terror attacks. It cited both company's exposure to problems of the Las Vegas gaming market - the industry's largest - which saw tourism fall off in the wake of the havoc the terrorist attacks caused in the airline industry.

Among other names seen, Lucent Technologies Inc., went down a point, its 7¼% notes due 2006 ending at 87.5 bid.

Apart from such company-specific situations, such as Kmart, Williams or Kaiser, the market was seen as generally quiet. "It seems like the past couple of days, it's been busy in the morning," a trader summed up, "then by lunchtime, everyone puts the brakes on, and then sits back and watches."

End

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