Ellison Privately Vows to Keep Enlarged Paramount’s Debt in Line

(Bloomberg) -- It began as a concession in private conversations to assuage wary credit analysts looking at Paramount Skydance Corp.’s blockbuster takeover of Warner Bros. Discovery Inc.: a verbal pledge by the Ellison family to do whatever it takes to slash debt at the combined company.

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Then Wall Street forced it into the open.

Paramount is financing its Warner Bros. acquisition with a daunting roughly $50 billion of debt, leaving investors skeptical of creating a heavily leveraged entity in a turbulent media industry.

To ease those concerns, Paramount Chief Executive Officer David Ellison privately promised ratings agencies including S&P Global Ratings that the family — which controls Paramount — would step in to tame leverage at the merged entity. The credit graders then pushed for that commitment to be made public and sure enough, Paramount revealed it in a regulatory filing last week.

“It was a verbal comment from David Ellison,” said Naveen Sarma, sector lead for US media and telecom at S&P. “I think all the agencies, and certainly us, insisted on a public disclosure as well.”

The exchange highlights the anxiety surrounding the proposed $110 billion combination, which beyond concerns over the massive debt load, is facing widespread opposition in Hollywood and contending with the prospect of rankling Warner Bros.’ existing creditors as well.

Yet the public disclosure proved decisive for S&P, which viewed the wealthy family’s backstop as a tacit commitment to inject additional capital if needed. While S&P has said it expects to lower the post-merger company’s rating by one notch to BB, Sarma noted that without the family’s backstop, the expected rating would have gone down by two notches.

“When we came up with our rating, the disclosure on the leverage commitment and the potential for them to do equity, if they need, was a very strong part of that,” Sarma said. “From our standpoint, it’s a pretty powerful statement.”

A representative for Paramount declined to comment. The pledge mirrors assurances the Ellison family and RedBird Capital Partners made earlier to Warner Bros. to guarantee their $47 billion equity investment.

Leverage Goals

In Paramount’s May 19 filing — which detailed other elements of the deal’s financing — the company added a section titled “Commitment to Deleveraging.” It disclosed that it told certain ratings agencies it was “Paramount’s and its controlling stockholder’s plan and commitment” to reduce leverage at the combined company to specified targets over the coming years.

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Paramount expects the entity’s net debt to sit at 4.3 times earnings at closing, before dropping to three times within three years via cost-cutting and other synergies. But analysts are skeptical that these measures alone can achieve such targets.

“Based on what we know about the industry, and using a rough calculation, we don’t think their target for net debt can be reached only by improving profit margins,” said Wunmi Adekanmbi, an analyst at Fitch Ratings. “We assume they are also planning to pay down some debt.”

Fitch expects gross debt — meaning total debt before subtracting cash on hand — to be about seven times annual cash earnings after the merger, though Adekanmbi said that number could fall after accounting for the deal’s savings and efficiencies.

CreditSights, meanwhile, said earlier this month that post-merger leverage could rise to about five times annual cash earnings, which its analysts deemed a “frightening level.”

Representatives for Fitch and Moody’s declined to comment on the discussions with David Ellison.

Complex Structure

Warner Bros., formed through the 2022 merger of AT&T Inc.’s WarnerMedia business and Discovery Inc., was at the center of a fierce bidding war earlier this year, before Paramount outmaneuvered Netflix.

To fund the deal, Apollo Global Management Inc., Bank of America Corp. and Citigroup Inc. initially provided $54 billion in short-term financing which was later reduced to $49 billion and shared with a larger group of banks. Paramount said in the May 19 filing it plans to replace that temporary funding with $39.5 billion of first-lien debt and another $12.4 billion of second-lien debt.

S&P also said in its note that if the acquisition closes as proposed, it plans to assign a BBB- rating to the first-lien secured debt, which is the lowest investment-grade rating.

While credit markets largely expect the offering to attract sufficient demand, the complex structure and size will likely command a steeper price. Investors must absorb a rare mix of high-grade and junk paper from a volatile entertainment sector. The financing is also evoking uneasy memories of the leverage that burdened bondholders after the 2022 WarnerMedia-Discovery merger.

“The structure introduces complications that investors might be a little wary to deal with,” said Jim Fitzpatrick, head of US investment grade research at Allspring Global Investments. “They’re going to have to make this quite attractive to build a book that’s going to be able to handle the size they want to get done.”

Planned Buyers

Ryan O’Malley, a portfolio manager at Ducenta Squared Asset Management, is among those planning to buy the newly issued debt across both the investment-grade and high-yield tranches. He remains undeterred despite expecting the company’s post-closing debt burden to be about 4.5 times annual cash earnings.

“They will manage to de-lever through cost cutting and by selling assets they don’t need,” he said.

The financing could launch within weeks, an accelerated timeline that suggests Paramount is seeking to lock in institutional demand before a shifting macroeconomic backdrop pushes borrowing costs higher.

Bank of America and Citigroup are preparing to syndicate the debt, which will include investment-grade bonds sold in multiple tranches, dollar- and euro-denominated loans, as well as high-yield bonds also split across the two currencies, Bloomberg reported.

Paramount has meanwhile launched offers to purchase or exchange certain bonds issued by two Warner Bros. subsidiaries in an effort to simplify the combined company’s debt structure and contain borrowing costs ahead of the merger.

Even in the junk debt market, surging yields have buoyed demand, cushioning the blow from a recent global bond selloff

“It’s a large, complicated deal but it’s coming into a fairly tight credit market and if they price it attractively it has the potential to do very well,” said Campe Goodman, a fixed income portfolio manager at Wellington Management Company.

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