A Grilling for A Texas Deal

Jun. 9, 2003

By Christopher O’Leary (christopher.oleary@thomsonmedia.com)

Co-managing a bond deal on Wall Street may be regarded in many quarters as a clubby or even ceremonial affair, but one financial advisory firm turned that notion on its ear for an upcoming securitization for a Texas utility.

Saber Partners LLC, a New York City-based financial firm that is advising the Public Utilities Commission of Texas on stranded asset deals, resolutely grilled every co-manager aspirant on a pending deal in the $500 million range for Oncor Electric Delivery Co., a subsidiary of TXU Corp. It asked questions so detailed that some Street firms, apparently unwilling to go through such an intensive process, simply withdrew.

Typically a co-manager winds up on a deal for a number of reasons, few of which are related to its actual ability to achieve tight pricing and to expand the investor base for the deal. Rather, a co-manager selection is at best an afterthought, at worst a reward for banks that have previous relationships with the issuer, market sources have long speculated.

Saber, which has the highly unusual mandate to be an equal joint decision maker with the Texas PUC, asked a clipboard full of detailed questions to prospective co-managers for the Oncor deal-questions that some bankers said are usually reserved for the lead managers of bond deals. Many bankers said that for co-managers, the general belief is that the slot is not what it once was, and hence not worth the paperwork. Saber, however, makes the case that the specific information it requested is absolutely essential to get the best pricing for its client.

In the past five years, the role of the co-manager has increasingly become ceremonial, many debt bankers admit. Where co-managers once were vital to the successful pricing of a deal, the rise of 100% pot structures, which critics say diminishes the incentive for individual banks to hustle for buyers, and the increasing prevalence of joint lead-managers has created a sharply tiered system in which the lead managers do most of the bond pricing, and the co-managers, as one debt banker bluntly puts it, “pick up a check.”

Co-managers “are really more ceremonial. There’s not a lot of significance attached to [the role], except when someone is added to or dropped from the list,” said Ray Soifer, chairman of Soifer Consulting LLC, a consulting firm that follows banking practices.

As this trend shows no signs of abating, advisers like Saber believe it has contributed to less-than-ideal pricing conditions for issuers. The ever-increasing phenomena of massively oversubscribed deals, while on paper a sign of a deal’s popularity, is also an indication that the deals have not been priced accurately.

“A deal described as being wildly successful and two to five times oversubscribed, without a repricing, is a disaster in terms of traditional investment banking principles, because you’ve left money on the table,” said Saber Chief Executive Joseph Fichera.

Tough questions

Hence Saber’s detailed six-page request for information, which it sent out in April to prospective co-managers. From the start, the adviser was determined to get adequate answers to its questions. “We understand the trend in investment banking is for presentations or responses to questionnaires like this to be considered perfunctory and often to be treated with “boilerplate” responses,” the firm wrote. “We assure you this is not the case in connection with this RFI.”

Traditionally, questions asked of co-managers are usually historical and quantitative-how many deals have you underwritten in a certain period, what is your past history with the issuer, what is your market share? But that set of facts doesn’t tell the whole story on, for instance, what an underwriter did to improve pricing conditions and sell bonds.

Among the questions Saber asked: Did the prospective underwriter have niche buyers unique to the firm that “reasonably could be expected to assist the transaction to achieve the lowest possible transition bond charges?” Also, what could the underwriter do to expand the investor base “to more credit-sensitive (i.e., “buy and hold”) investors who may accept lower yields in return for greater safety?”

Many of the questions were meant to get to the heart of the matter: exactly what the prospective underwriter considered a co-manager’s role to be. Saber asked respondents to “briefly describe, from the issuer’s point of view, the duties and responsibilities we should expect from… co-managers and… syndicate or selling group members.” Other questions included whether or not a respondent, as a co-manager in a previous deal, had had any recent disagreements with lead managers, and how those conflicts were resolved.

The co-manager syndicate (as well as the lead) have been chosen, and the Oncor deal is now being readied for market, but as of press time Oncor hadn’t revealed which banks made the cut.

“It’s quite unusual,” said one debt banker when the questionnaire was described to him, and whose bank was not a candidate in the Oncor deal. “There are some serious contests for lead manager, sure, but it would be highly unusual for anything like this for co-managers. Basically, the lead manager is a beauty contest, and the runners-up get co-manager slots.”

This belief, some market critics say, leads to the natural follow-up question: What exactly are issuers paying co-managers to do, anyhow?

It works for Texas

Ever since it received the mandate to advise the Texas PUC in the Texas stranded asset securitization program, Saber has been on a crusade to make the co-manager role more vital. In the inaugural issue from another Texas utility, Central Power & Light Co., the Texas PUC and Saber performed another intensive search for co-managers, and enticed them by creating a structure meant to encourage co-manager innovation, including a $1 million bonus that was awarded to co-managers based on their performance. (“A $1 Mil Carrot for Co-Managers,” IDD, 2/11/02, p. 13.) The result, Saber said, was extremely tight pricing and a great value for Central Power.

The upcoming Oncor deal, which could price as early as this month, is another in a series of securitizations of “stranded assets” for Texas utilities-these are basically settlement dollars the issuer utility received in exchange for the Texas government opening the market up to deregulation. The PUC is the body responsible for authorizing the overall program, and hence plays a major role in designing each stranded asset deal.