Most banks don’t see themselves as ferry operators. But for Banco Espirito Santo, DEPFA, ING, Mizuho and SMBC, being a ferry operator is the best chance they now have of getting back the £200 million (€227 million; $331 million) loan they provided to the Isle of Man Steam Packet Company, a UK ferry operator previously owned by three Australian pension funds and Macquarie.
The Isle of Man debacle is a perfect poster child for the so-called “refinancing wall” that many deals of yesteryear are now facing. In a nutshell: a highly leveraged deal done in 2005 paying very low margins comes up for refinancing in 2010; banks want to deleverage the deal to a contemporary structure; but the underlying asset is underperforming and its pension owners are uncomfortable with the idea of injecting more equity into it.
The result: banks end up owning the asset after the pensions call it a day and retreat Down Under to ponder how their supposedly safe, long-term infrastructure investment was wiped out just five years into their ownership.
To better understand how the deal got to this point, we have to look at its origins, back in October 2005, when Macquarie bought the ferry operator from European private equity firm Montagu Private Equity for £225 million (excluding debt). This being 2005, Macquarie did what was perfectly normal at the time: it leveraged the asset at nine times its earnings before interest, tax, depreciation and amortisation (EBITDA).
Then in December 2006, it flipped its £40 million equity investment in the ferry operator to New South Wales State Super, CBUS and Nambawan Super for £70 million. The pensions became the owners of the ferry operator, with Macquarie remaining onboard with a small stake in the business and a 10-year contract to operate the asset on the pensions’ behalf – to the tune of £1 million a year in management fees, plus performance remuneration.
At first, it was plain sailing for all involved. The business was performing well and turning a neat profit. Interest on the debt was being serviced comfortably; dividends of £8.4 million and £7.6 million were paid to shareholders in 2006 and 2007 respectively; and a performance bonus netted Macquarie a total of £2.9 million in fees in 2007.
Then the tide got rougher in 2008 and 2009. The global financial crisis hit the Isle of Man’s sole ferry operator and freight and passenger traffic decreased. Suddenly, all the profits were being channelled into servicing debt. Dividends – but not management fees – stopped being paid to the shareholders. There was also another parliamentary inquiry conducted by the island government in 2009 – the second in two years – looking at the fares being charged by the ferry operator.
Come September 2010, it was time to either refinance the bullet loan, or repay capital on it, which the business couldn’t do. The five-bank consortium extended maturity on the loan as refinancing talks kicked into overdrive. The deal’s 2005 structure became an issue. Banks wanted to deleverage the business in line with the prevailing environment, where similar deals tended to be leveraged at closer to four times their EBITDA.
But the pensions were wary of investing the amount of equity banks were demanding in a business they saw as underperforming. They were also jittery about the renewal, in 15-years’ time, of the ferry operator’s exclusivity agreement with the Isle of Man government, which accounted for most of the asset’s value.
Monopoly no more?
Two parliamentary inquiries and a financial crisis later, what seemed (and maybe still is) a sure-fire renewal of the ferry operator’s monopoly position, which it has held since 1830, was, like all other assumptions about this deal, looking less and less certain.
So the three pensions decided to write down their equity and jump ship, leaving the five banks in the awkward position of being ferry operators as of April 2011, in the hopes of getting their money back in five to ten years’ time.
If there is a moral to the story, it’s how inadequate the 2005 model of investing seems – with its high leverage and overly optimistic view of the correlation between demand infrastructure and the wider economy – just six years down the line. But then, hindsight is a wonderful thing.