Use any rally on pending refinancing to exit Mirant, credit analyst advises

By Ronda Fears

Nashville, June 2 - Gimme Credit bond analyst Kimberly Noland suggested in a report Monday that investors use any rally in Mirant Corp. paper on the prospects of a bank and bond refinancing to sell and exit the name.

"Bankers for distressed energy merchant Mirant (Caa2/B) are working overtime to keep the company out of Chapter 11," Noland said in the report.

"A plan to restructure almost $5.3 billion of bank debt and bonds is likely to be unveiled before mid-July."

Another beleaguered energy concern, AES Corp., recently completed a refinancing that lifted its bond prices and investors may be looking for similar gains with Mirant, she added.

"Based on recent performance of AES debt, all bonds are likely to trade up on a successful refinancing. If bondholders receive a first lien on all available collateral, we think they will be motivated to exchange," Noland said.

"Trading levels of the shorter maturity [Mirant] bonds have increased substantially in the last several weeks to prices approaching 80% of face value. Even the bonds likely to remain unsecured have appreciated to the 60s.

"In this case we would use a rally prompted by a successful refinancing to exit the name."

A successful refinancing will buy Mirant significant breathing room, she said, but the company's fate ultimately depends on a power market recovery and dramatic improvement in operating cash flow.

Recovery may be dubious, she said, and refinancing may be costly, so now would be a good time to get out.

Mirant's EBITDA last year was down over one-third from 2001. In a recent conference call, management projected $800 million EBITDA this year. Meanwhile, debt has ballooned to $8.9 billion, resulting in projected leverage of 11x in 2003.

"Unlike AES, which completed an exchange offer that tendered for bonds at a discount, Mirant management said they intended to repay all the debt in full and provide more favorable terms," the analyst said.

This would not reduce the amount of debt and may cause a deterioration in interest coverage due to higher interest expense, she pointed out.

The restructuring proposal needs to keep the company afloat over the next two years until it can benefit from possibly improved market conditions.

Mirant had $700 million of unrestricted cash in April, down from an estimated $1.2 billion at year-end. Free cash flow likely will be negative this year and the company will need to use asset sales to fill the gap.

Unless Mirant's operating cash flow increases substantially in the next two years, cash balances could be depleted further.

"The precise [refinancing] deal terms are still unknown, but banks and holders of shorter maturity bonds likely will be offered liens on Mirant's assets in return for extension of principal repayment," Noland said.

"Assuming the $5.3 billion in debt involved in the restructuring is given a first lien on all the assets and thus a claim on Mirant's entire $800 million EBITDA this year, the company needs to be worth 6.6x EBITDA to cover the restructured debt at par.

"Factoring in the remaining cash, the multiple is still over 5x. And there is no assurance the bonds will be treated pari passu with the bank debt. A deal giving a superior lien to Mirant's nearly $3.5 billion of bank debt could result in a recovery below par for bonds with only a second lien position.

"Without a significant recovery in the company's operating results, unsecured longer term debt could be severely impaired."

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