Eircom restructuring shows how losses should be borne

THE BOTTOM LINE:EIRCOM'S restructuring under court- protected interim examinership and the proposed partial writedown of its debt to save the company shows how mature capitalism should actually work.

If you lend to a company that cannot repay those loans but has a reasonable prospect of surviving, then getting some money back rather than none – or considerably less than you would if it was wound up – is the best option for all.

If only the same logic could be applied to the banks, the cost of their rescue would not be as high as €63 billion. The Government guarantee up-ended the structures of capitalism. It erased the rules of the game.

Approving Eircom’s interim examinership last week, Mr Justice Peter Kelly said it was the subject of corporate “pass the parcel” where some players in the game (the owners) won and the parcel (Eircom) lost.

Since being privatised by the Government in 1999, debt upon debt has been lumped on Eircom by successive owners. The lenders who will take control of Eircom after the examinership process will be the seventh owners in 13 years. The Valentia consortium, which included businessman Sir Anthony O’Reilly and financier George Soros, pushed debt levels over the €2 billion mark by 2001; Australian investment group Babcock Brown roughly doubled it by 2006.

Under the proposed restructuring, senior bondholders will bear losses of €720 million as part of a reduction of the company’s overall debts from €4.1 billion to €2.34 billion.

“First lien” lenders holding senior debt will be repaid 85 cent in the euro on the €2.7 billion they are owed, while the “second lien” lenders subordinated to them will receive only 10 cent in the euro on the €350 million owed.

Subordinated lenders will get nothing and will see their loans of €1.05 billion wiped out. The most recent owners – the ones left holding the parcel, Singapore-based STT and the employee Esot – will also be left with nothing. The blow to the Esot will softened by the €750 million in tax-free cash paid to members over the years as the parcel was passed around.

Let’s just assume (dream?) that the bank guarantee doesn’t exist and European Central Bank bosses allowed the Government to apply the rigours of capitalism to Anglo Irish Bank. How much could an Eircom-style restructuring have saved the State?

Taking the senior bondholders at Eircom as a whole, they are facing the loss of 24 per cent of their money. Anglo repaid €14.6 billion of senior unsecured debt to September 2010 during the two-year guarantee and has also paid the bulk of the remaining €2.7 billion falling outside the guarantee since then.

Applying the Eircom knife to Anglo without the protection of the guarantee would have saved €4.2 billion on senior bonds. This would have been far more beneficial than the recent deferral of a cash payment of €3.1 billion with a Government loan due in 2025.

Subordinated bondholders at Anglo also walked away with something – about €700 million of the €2.5 billion they were owed – during debt buy-backs by the bank between 2008 and 2010. Even since the blanket guarantee ended, small sums have been paid out to subordinated lenders.

The guarantee has not just lumped suffocating amounts of bank debt on the State but it has tied one hand behind the Government’s back when it comes to negotiating a writedown of bank debt.

Just as the guarantee has prevented restructuring negotiations designed to put debt-laden companies like Eircom on a sound financial footing, personal guarantees have hamstrung individual borrowers.

The concept of limited liability in Irish business ceased to exist during the boom years as bankers shunned the traditional work of critically assessing cash flows when the rising value of property was all that counted and an all-encompassing personal guarantee from a borrower put a lender’s mind at ease.

Guarantees limit the power of negotiation. Writedowns are often only agreed if both sides – lender and borrower – believe a proposal is a bad deal, in which case it’s usually a good deal as no side is seen to benefit over the other. As for the State, guaranteed lender to the banks, nothing other than the full repayment of everything it was owed was acceptable.

This is why the guarantee was such a raw deal for the Irish people. They only have to look at Eircom – more strategically important to the State than Anglo ever was – to see how losses should really be borne.