You would think that General Electric Co. would be the last corporation in the world to default on its debts. For starters, GE makes tons of money, so it can afford to pay its bills. What's more, there's the GE image thing. This is a company so concerned with appearing purer than pure that it turns up its patrician nose at hostile takeovers because corporations with old-fashioned virtues aren't supposed to countenance such things.
Yet last week, almost unnoticed, a GE subsidiary defaulted on $100 million of its bonds. It will probably soon default on some $65 million of preferred stock, too.
GE defaulting? Isn't that an unnatural act? Like Mother Teresa taking up a life of crime, an investment banker renouncing fees and the sun rising in the west, all on the same day?
But GE's Edgell Communications subsidiary did, in fact, default.
In its brief announcement that it was stiffing its bondholders, Edgell didn't mention that it's owned by GE. You can see why. The announcement did say that GE Credit, Edgell's senior lender, insisted that Edgell not pay the $7 million bond interest payment that was due on July 16.
To understand the significance of GE Credit's role here, it helps to know that GE owns 70 percent of the company that owns Edgell. This means that GE, as senior lender, insisted on having GE, Edgell's controlling stockholder, stiff bondholders and preferred stockholders to benefit the senior lenders, which include GE Credit and seven banks that have bought pieces of the $110 million loan. You don't see this kind of thing every day. It should be interesting to watch how GE, as shareholder, negotiates with GE, as senior lender and agent for the other senior lenders, when the struggle begins about who will lose how much money in Edgell's upcoming financing restructuring.
What does GE think about this mess? Call the folks at GE Credit, who are handling this deal, and ask them. They wouldn't talk to me.
To be fair, GE never said it was standing behind Edgell's bonds or the preferred stock of New Century Communications, which owns Edgell. But what's going on here does seem more than a little tacky.
Edgell, based in Cleveland, was created in 1987 by Kidder, Peabody & Co. -- another GE subsidiary -- to buy the trade publications, exposition and school supply distribution businesses of Harcourt Brace Jovanovich. HBJ, you recall, needed money to help repay the debt it took on when it gave shareholders a huge dividend to fend off a hostile takeover by Robert Maxwell, the British publishing tycoon. (HBJ, of course, has all but destroyed itself in its attempt to stay independent, but that's another story.)
Edgell is an absolutely classic leveraged buyout -- of the failed variety, that is. There were big fees, excessive optimism, and the belief that a greater fool would pay more for assets tomorrow than you overpaid today.
Edgell forked over about $334 million to buy the three businesses from HBJ and became the proud owner of such publications as Urology Times, Pest Control, Pit & Quarry and Poultry Processing. These aren't very glamorous, but they make good money. Not good enough, however, to support the debt that Kidder and GE piled onto it -- to wit, $110 million of secured loans from GE Credit; a $75 million senior loan from GE Credit; and the $100 million of bonds and the preferred stock, which started at $45 million and is now up to about $65 million.
GE, in its various incarnations, racked up some $17.5 million of upfront fees from Edgell. My favorites are the $1.4 million for Kidder getting GE Credit to provide senior financing -- after all, some Kidder hotshot probably had to find the GE Credit number in his interoffice directory -- and the $3,341,200 that Kidder took as a so-called deal fee. Why that peculiar amount? Because it was precisely 1 percent of the purchase price, and Kidder wasn't about to let a loose $200 escape.
GE actually made more than its fees, but I won't bore you with the details. GE paid about $23 million for its 70 percent piece of the company -- which means that it owned most of Edgell at a net cost of almost nothing. Pretty slick. Very LBOish.
There was only one problem. Between the price to HBJ and all the fees, the new company was carrying so much debt that its operations couldn't make enough money to pay for it. Not to worry. The $75 million loan from GE Credit doesn't require cash interest until 1991 -- the interest, some $33 million, would be added to the loan. And the $45 million of preferred stock that Kidder peddled can pay its 17 percent annual dividends by issuing new shares rather than forking over cold cash.
But even with this $120 million of non-cash-paying obligations, Edgell had to sell some properties this year to pay its bills. Did Edgell's management screw up? Nope, the businesses are still solidly profitable. The problem is that they failed to grow as projected and can't possibly pay next year's bills, not to mention this year's.
Next year, the $75 million loan from GE that doesn't require cash interest until 1991 becomes a $108 million, 12.66 percent cash-paying loan, and Edgell can't possibly come up with the necessary $13 million a year. Plus, Edgell has to repay some of its borrowings, which it can't afford to do without selling pieces of itself. So, rather than destroy the company by stages, the company pulled the plug now. Too bad for Edgell's bondholders.
And too bad, most likely, for the people of Duluth, Minn. Edgell employs more than 800 people in Duluth and says it's the largest nongovernment employer there. Duluth has been depressed for years -- it never recovered from the collapse of the iron ore business -- and now will have a new problem to worry about.
If Edgell is truly creative, it will start a new publication to write about this mess, and will make a few bucks by selling it to everyone involved. My proposed title: "Wretched Excess."
Allan Sloan is a columnist for Newsday in New York.