Buy Asda: How gas station billionaires plan to close the deal

After two brothers from Blackburn, in the north of England, beat Wall Street giant Apollo in the race to buy Asda this month, they were riding high.

Mohsin and Zuber Issa – who partnered with buyout group TDR Capital on the £6.8billion deal – were praised by Chancellor Rishi Sunak for returning the Walmart-owned grocery chain to the UK, then named to the Queen’s Birthday Honors List.

But the public excitement concealed the private agitation. Last week, Deloitte abruptly resigned from auditing EG Group, the acquired and heavily indebted gas station business run by the brothers and their backers, over concerns about its governance and internal controls.

Now the Issas and TDR, which an adviser called “one of the most secretive private equity firms I know”, must come up with a plan to fund the most ambitious UK grocery deal in decades. decades, just as an unflattering spotlight is shone on the business that fueled their meteoric rise.

“The question is, did they bite off more than they can chew?” said a senior trader who followed EG. “Is this ego beyond meaning, and have they gone too far?”

The Asda purchase will be the UK’s biggest leveraged takeover since KKR bought Boots in 2007, giving buyers control of the UK’s third-largest supermarket, with its 145,000 staff and 14 % of grocery market.

“[The brothers and TDR] have managed to do a good job of being under the radar, ”said an adviser. “Going for Asda will bring them into the public eye more than they are used to, which is going to be quite difficult.”

Business financing

So far, the buyers have not explained, publicly or even in a call with EG’s bond investors, how they plan to fund the supermarket’s bid, and the bankers involved have said they don’t. Were unable to share enough information about the structure of the deal to generate early interest. to potential investors.

EG is not a party to the Asda takeover, but its investors are wondering what such a large deal by the owners of the company might mean to them. “[The] The problem is we’re not getting answers,” said an EG investor.

The Financial Times spoke to several insiders with direct knowledge of the deal to piece together how it was put together. These conversations revealed a complex structure that involves offshore vehicles and financial engineering. The takeover is not complete, the financing plan is likely to evolve, warned the populations.

Group founders EG Mohsin, right, and Zuber Issa © Jon Super/FT

One likely item is the sale of Asda’s petrol stations to EG, two people with knowledge of the matter said. EG owners have set up a vehicle called Bellis Forecourts and a separate vehicle called Bellis Property NewCo in Jersey, where only limited information is publicly available. Gas station sales were not discussed during the investor call, the person said.

Because the companies are private, such a transaction would be subject to less scrutiny than publicly listed groups under ‘related party transactions’ rules, which aim to ensure assets are transferred at a fair price.

However, the UK Competition and Markets Authority, which cited reduced competition in fuel retailing among its concerns when it stopped J Sainsbury from buying Asda last year, could require that ‘EG is getting rid of some of its sites.

The largest component of funding for the deal with Asda will be a £4bn debt package led by Barclays, a combination of high-yield bonds and leveraged loans.

The deal’s bankers are hoping it will earn a BB rating, below investment grade but still far from the lows of the junk bond market. That would leave Asda leveraged around 3.5 times its £1.2 billion in earnings before interest, tax, depreciation and amortization, according to a person familiar with the matter. EG Group has a net debt of more than ten times its adjusted profit.

The UK Competition and Markets Authority, which cited reduced competition in fuel retailing among its concerns when it stopped J Sainsbury from buying Asda last year, could require EG is getting rid of some of its sites © Bloomberg

Limit cash

The Issas’ playbook of previous smaller deals has been to fund the equity component of new acquisitions without spending a penny, most recently using preferred stock.

These, or “payment-in-kind” notes, which can pay interest with additional debt rather than cash, would, if used, allow the brothers and TDR to further reduce their costs. This would potentially allow them to fund their stakes in a £6.8 billion company with just a few hundred million pounds each. TDR’s most recent fund is worth €3.5bn and it is rare for private equity groups to commit more than 10-15% of a fund in a single deal.

Walmart, the publicly traded US retailer that has owned Asda for 20 years, will continue to hold a stake in the British grocer, but declined to say what the size or structure will be. Three people familiar with the process said it should be around 25%.

“As you would expect, all of Asda’s future plans were discussed in detail with Asda and Walmart during the sale process,” an EG spokesperson said. “The capital structure we will put in place for Asda will provide a strong platform to enable investment, accelerate strategy and grow the business.”

Line chart of €670m, 4.375% coupon maturing in 2025 (% of par) showing the performance of EG Group bonds

Governance issues

EG has grown rapidly from a simple petrol station to a global group employing 44,000 people and generating €20 billion in revenue, in line with some of the UK’s largest listed companies. But its governance structure has not kept pace. The company’s board has no outside members – it consists of the brothers and two TDR executives – which was a major concern for Deloitte according to a person briefed on the matter.

“Given their size, you would expect a good roster of non-executives and a strong chairman,” said a person who has worked with the company.

An EG bondholder said: “It seems crazy that they don’t have multiple independent directors and I see no reason why they haven’t put this in place.”

EG Group’s annual report, filed in September, said it was looking for non-executive directors and a chairman. Mohsin Issa told investors on the call last week that the group would put the structure in place in time for a planned stock market listing, without providing details on the timing.

The way the company will be incorporated should bring tax benefits. Two people involved said the grocer would belong to a Jersey-based vehicle – one of 12 TDRs and the brothers set up for the deal © Fritz Hiersche

Asda will have a separate board, a spokesman for TDR and the brothers said.

The way the company will be incorporated should bring tax benefits. Two people involved said the grocer would be owned by a Jersey-based vehicle – one of 12 TDRs and the brothers set up for the deal, with help from Appleby, the law firm at the center of the Paradise Papers leaks.

The Jersey structure would allow its owners to avoid a 0.5% stamp duty when selling the business, according to a senior tax lawyer not involved in the deal.

An EG debt investor said he expected Asda’s post-deal debts would reduce its statutory profits, also reducing its corporation tax bill, as this often happens with highly leveraged companies – although the UK has introduced limits on these tax benefits.

In this context, the investor questioned Mr. Sunak’s support for the deal. “I don’t know why the government is applauding this,” he said.

Additional reporting by Tabby Kinder

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