Under most credit agreements, this change in majority ownership of the stock would force the company to redeem its existing debt, which includes two term loans totaling roughly $2.5bn.

However, Focus’s current credit agreement documents contain a loophole, by which a change in majority ownership of the stock does not constitute a change of control if ‘permitted holders’ continue to control the board of directors. 

Stone Point, which is a permitted holder under that credit agreement, is set to maintain board control, said two sources following the deal. “The doc language basically makes their capital structure portable by the back door,” said one. 

This leaves CD&R in the odd position of being the majority equity owner of a company without technically controlling its board. 

The new debt that Focus Financial is raising to fund the takeover is a $500m first-lien term loan, arranged by RBC. Syndication launched last week and is set to wrap up today; the 2028 facility is being talked at SOFR+350bps with a 50bps floor and a 98.5 OID. 

The deal (rated B1/B+) will also include a $240m add-on revolver, which will increase the company’s existing $650m revolver to $890m at the close of the transaction, according to a recent Moody’s report.  

The SOFR+350bps price talk on the new incremental loan is higher than the company’s existing term loans, demonstrating the attraction of working around the change of control redemption. One of the tranches has a coupon of SOFR+325bps, and the other pays SOFR+250bps.

Aside from not taking on more debt at today’s rates, the company also gets the benefit of bringing a smaller deal to market and the lower associated fees. 

Workaround

With average SOFR now sitting at around 5% and credit spreads still elevated, Focus’s move to circumvent a full recapitalization makes a lot of sense. 

However, it has raised some hackles on the buyside. Some lenders they were irked by the move, while others said they were abstaining from the the deal out of principle — although they were quick to note that the damage was minimal, as the existing loans are trading close to par.

“It would be hard to seek damages when the loan is trading around par,” said one. “It’s not worth my time and effort to litigate and pick a fight for the sake of a couple of points.”

Focus Financial’s existing SOFR+325bps $1.76bn TLB and $240m TLA due 2028 and are currently quoted at 98.62, down from 99.209 on 3 May, before the new term loan deal was launched.

Another lender suggested the situation was a timely reminder of the importance of reading and understanding credit agreements — echoing the tone of some of the market participants we spoke to for a recent piece on how sponsors can exploit loose debt covenants.

“People need to read these change of control docs carefully,” said the second lender. “It’s either voting and economic control, or just economic, or sometimes — as in this case — just voting, which is very easy to get around.”

With the secondary market offering the chance to exit at constructive levels, the question for lenders now is whether to stay invested. 

Focus Financial is marketing the deal off 5.4x in total leverage, based on $580m in adjusted EBITDA, the sources said, adding that it has around $45m in pro forma cash.

One source flagged the competitive landscape for financial services roll-ups as point of concern for the credit, noting that this highly charged backdrop could limit Focus’s potential to grow through M&A.

“Focus doesn’t have a lot of working capital needs, but it’s not clear how CD&R will grow it,” the source said. “The only way to really do it is through roll-up acquisitions, but the M&A landscape is really competitive, so they would need to pony up a lot of cash.”

In a recent S&P report, the agency said that it had downgraded Focus Financial, citing expectations that leverage would increase as the compay channels more capital into acquiring registered investment advisors (RIAs) under private equity ownership. 

Focus Financial holds a B1/B+ corporate credit rating, following recent one-notch downgrades from both Moody’s and S&P. 

RBC declined to comment for this story. Focus, CD&R and Stone Point did not return requests for comment.