Formula One's in the Driver’s Seat on Interest Costs

Racing company asks lenders to lower rate on $1.33 billion loan.

Formula One is relying on its auto-racing dominance in Europe and a welcoming loan market to slash borrowing costs even as its chief executive may be charged with bribery and private-equity owners pull cash from the business.

The racing company is asking lenders to lower rates it agreed to pay eight months ago in exchange for permission to sell $1 billion of junk bonds that financed a dividend to CVC Capital Partners Ltd. and other private-equity owners. Chief Executive Bernie Ecclestone has been under investigation by German prosecutors for a bribery case tied to Bayerische Landesbank’s sale of a stake in the company to CVC.

Formula One wants to trim the interest rate on a $1.33 billion loan to as little as 4.25 percent from 5.75 percent now as junk-rated companies capitalize on strong demand in the loan market to extract favorable terms from lenders. London-based Formula One’s racing is popular with fans in Europe and the company’s earnings last year rose as the region’s economy contracted 0.2 percent.

“When you got a strong position like them, and in a sector you don’t see very often, you’re likely to be able to get very good pricing in the current environment,” Melvyn Cooke, a Paris-based analyst with Standard & Poor’s, said in a telephone interview. “Formula One has no real direct competitors.”

The company sells rights to host and broadcast Formula One races, and also generates revenue from corporate sponsorships, from Switzerland’s biggest bank UBS AG to luxury watchmaker Rolex Group to Dubai-based airline Emirates.

The auto-racing series had $1.6 billion of revenue and $540 million to $550 million of earnings before interest, taxes, depreciation and amortization last year, according to S&P’s Cooke. That compares with $470 million to $480 million of Ebitda on $1.5 billion of revenue in 2011, he said.

The sales are at record levels, enabling Formula One shareholders to add debt to its balance sheet to pay themselves dividends, according to Xander Heijnen, a partner at Munich-based Communications & Network Consulting AG who has advised carmakers about participating in the racing enterprise.

“They know they will be able to repay the debt because the sport is so profitable,” Heijnen said in a telephone interview.


Loan Demand

James Olley, a CVC spokesman who works at Brunswick Group LLP in London, declined to comment on the company’s financing or any plans for Ecclestone to step down from his role as CEO.

Investor demand this year for leveraged loans, including from mutual funds and collateralized loan obligations, has helped riskier companies extract more favorable borrowing terms.

Leveraged-loan prices averaged 97.89 cents on the dollar on June 7, according to the S&P/LSTA U.S. Leveraged Loan 100 index. While prices are at a three-month low, the debt is hovering at about the highest level since July 2007.

Formula One has a total $3.2 billion of debt, including $1 billion of subordinated bonds and $2.2 billion of senior term loans, according to Cooke. The company also has a $70 million revolving credit line, which is undrawn, he said.

S&P lowered Formula One’s credit to B, five levels below investment grade, in November, citing the increased debt used for a shareholder distribution.

Leverage will increase to about 7 times Ebitda by the end of this year from 5.8 times in 2012, according to a May 31 S&P report. That excludes about $3.5 billion of “shareholder loans” that are tied to the company’s equity and don’t require cash interest payments.

“Financial leverage today is quite high,” Cooke said in the phone interview.

Formula One is seeking to trim interest on about $2 billion of loans, according to a source with knowledge of the transaction, who asked not to be identified because the terms are private.

The company proposed paying a minimum 4.25 percent for its $1.33 billion term loan and would pay more if the London interbank offered rate, the lending benchmark for leveraged loans that is set daily, rose above 1 percent, the person said. Three-month Libor was 0.275 percent on June 7.

Formula One currently pays interest at 5.75 percent for the debt. The cost would also rise if the lending benchmark increased to more than 1 percent, the person said. The $1.33 billion term loan, due in 2019, was quoted at 101.3 cents on the dollar on June 7, according to prices compiled by Bloomberg.


Another Dividend

The company’s shareholders will take another dividend of $332 million this year using cash on hand, according to Cooke. Senior lenders agreed last year to the dividend payments, he said.

CVC and other shareholders were poised to collect $2.2 billion of dividends last year, including the payout from the bonds, according to an Oct. 19 report from Moody’s Investors Service.

Formula One also operates in emerging markets, including Brazil and India, where fan following tends to increase in countries where a driver or team gains success in races, according to Cooke.

Not all of the teams benefit equally from the sport’s growth. “Roughly half of the teams are fighting for long-term survival,” Heijnen said. “If you’re not successful, you tend to suffer.”

The company has negotiated an eight-year contract with 10 of its 11 teams that runs through 2020 that states how much each gets paid for its participation and success on the track. The value of a team’s brand can influence how much it receives under the contract, which is part of the broader Concorde Agreement, named after the Parisian square where Formula One rule-maker Federation Internationale de l’Automobile is based.

“Ferrari is by far the star team,” said Heijnen. “They have always received a larger size of the pie.” The Italian carmaker’s brand is important to the sport because it’s the only team to have competed in Formula One since it was founded in 1950 and without missing a single season, he said.

The new contract will give driving teams more money to race, causing operating margins at Formula One to shrink to 27 percent in 2013 from “slightly” more than 30 percent, according to Cooke.

CVC bought a 63.4 percent stake in Formula One using $2.5 billion of loans, completing the deal in 2006, and has since sold some of its shares in addition to taking dividends. The buyout firm has reaped more than $4 billion on its original investment of $1 billion and expects to make as much as $7 billion, CVC co-founder Donald Mackenzie said in an Oct. 29 interview.


Piling Debt

“It was a very good deal for the shareholders,” said Heijnen. “It was not a good deal for the sport.”

The owners have piled debt onto a multi-billion dollar business to collect dividends instead of re-investing that money, he said, which could include support for traditional circuits in Europe and smaller teams.

CVC remains Formula One’s largest shareholder with a 35.1 percent stake, according to the annual financial report on F1 called “Formula Money,” an industry yearbook founded and co-published by Communications & Network Consulting.

The second biggest equity holder is now Waddell & Reed Financial Inc. with a 20.9 percent share, according to the upcoming edition of Formula Money that is expected to appear next month.

“The carmakers or the teams should have bought shares in the sport when they had the chance,” said Heijnen. “They didn’t, and they will regret it forever.”

The bribery investigation, which saw BayernLB’s Formula One manager Gerhard Gribkowsky sentenced to 8½ years in prison in 2012, could result in the series deciding Ecclestone should step down permanently or temporarily, according to a prospectus for an initial public offering that was suspended last year.

It is alleged that Gribkowsky accepted a bribe from Ecclestone in connection with the sale of the Bayerische Landesbank’s stake in Formula One to CVC in 2006, according to the prospectus. Ecclestone has stated that the payments weren’t a bribe, according to the IPO document.

Ecclestone said in a May 31 interview that an IPO wouldn’t go ahead while he faces charges in Germany. He said that CVC wasn’t “worried” about him being indicted and that he had the firm’s approval to remain leading Formula One unless convicted.

The business wouldn’t suffer if he has to leave because it has long-term broadcasting agreements, according to Ecclestone, who is 82. “There are enough good people on board who can keep things going on smoothly,” he said.


Bloomberg News



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