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Caesars' Guarantee Removal Likely to Spur Rights Fight

NEW YORK (The Deal) -- Caesars Entertainment's (CZR - Get Report) removal of its guarantee on the bonds issued by its operating subsidiary will lead holders of them to mobilize and fight for their rights, according to sources.

In an announcement on May 6, the Las Vegas casino giant said it has removed its guarantee on bonds issued by the unit, Caesars Entertainment Operating Co. by selling 5% of CEOC's equity to unnamed institutional investors. Removing the guarantee takes much-needed coverage away from bondholders at liquidity-strapped CEOC, which is widely believed to be headed toward a restructuring.

One holder of CEOC second-lien bonds who asked not to be named said he hadn't been interested in joining a second-lien bondholder group in the past, but that now, he would consider it. "I think everybody's going to challenge this transaction," the bondholder said.

Two CEOC bondholder groups have already formed to challenge a group of asset sales from CEOC to Caesars Growth Partners. The second-lien bondholder group includes hedge funds Canyon Capital Advisors, Oaktree Capital Management and Appaloosa Management and is being advised by Jones Day's Bruce Bennett.

The first-lien group is being advised by Kenneth Eckstein and Thomas Moers Mayer of Kramer Levin Naftalis & Frankel, The Deal has learned. Holders of CEOC first-lien bonds include Goldman Sachs Asset Management.

The second-lien bondholder noted that CEOC's second-lien bonds traded down after the announcement on Tuesday, then traded higher Wednesday morning. By late Wednesday afternoon, that held for at least CEOC's 10% second-lien notes due Dec. 15, 2018, which traded between 44.3 and 45.79 cents on the dollar on Tuesday, rose as high as 48 Wednesday morning, and settled at 46.75 Wednesday afternoon - a curious resilience given Caesars' removal of a substantial protection from those bondholders.

The second-lien bondholder, however, doesn't believe CEOC is headed for a bankrutpcy filing, since a formal court process would open the company to questions about whether the asset transfers out of CEOC constituted fraudulent conveyance.

"The objective on the part of the sponsor is to get both classes to trade down and then fight over the value," the bondholder said about the first- and second-lien classes of debt.

As of Wednesday afternoon, however, that strategy didn't seem to be panning out.

Private equity firms Apollo Global Management and TPG Capital bought a majority stake in the company for $30.7 billion in 2008.

Another source mentioned that the indenture for the bonds issued before Caesars' private equity buyout allows the parent to drop its guarantee if CEOC is no longer a wholly-owned subsidiary - but, the indenture refers to Securities and Exchange Commission Rule 1-02, which defines wholly-owned as having substantially all of its shares owned by the parent.

Given that definition, the source believes CEOC is still wholly-owned by the parent under the legacy notes' indenture, and still-deserving of the parent guarantee.

In a May 7 report, Fitch Ratings noted that the indentures for the post-LBO bonds contain vague language that could be interpreted as suggesting that the conditions for a parent guarantee release have not been met.

For instance, you could read the indenture as stipulating that debt must be defeased before the guarantee can be released, Fitch said.

Caesars' position "can be challenged by the noteholders," the ratings agency concluded.

Caesars' new financing plan for CEOC aims to refinance all of its 2015 debt maturities and also to prepare the unit for a stock listing.

Before the refinancing plan was announced, it was widely expected that Caesars would run out of liquidity during 2015.Now research firm CreditSights believes Caesars has liquidity through June 2016, according to a May 7 report.

Caesars has commitments for the majority of a new $1.75 billion term loan that would be used to repay CEOC's 2015 debt maturities.

Credit Suisse is leading the new term loan; pricing talk is at Libor plus 950 basis points, with an original-issue discount of 98. The loan will be due March 1, 2017, with a springing maturity.

Caesars is also looking to ease its financial covenants, including removing "qualifying language" as an event of default under its credit agreement. The company didn't reveal the full scope of amendments it is requesting.

Fitch rated the new term loan at CCC on May 7 and concluded that it and other aspects of the new financing plan "are negative for most CEOC debt holders."

Moody's Investors Service analyst Peggy Holloway said by phone on May 7 that the new financing transactions are bad news for junior creditors.

"Essentially, the transaction is going to increase the dollar amount of first-lien debt, so there will be more debt ahead of the junior debt, and recovery estimates will be revised downward," she said. "The company is still burning a billion dollars of cash, and we think a more holistic restructuring is more of a near-term event."

The lenders who signed onto the new term loan have demanded that the parent guarantee apply only to first-lien debtholders who consent to certain covenant amendments and to an additional $2.9 billion in indebtedness.

The refinancing of 2015 maturities could address ratings agencies' conviction that CEOC will run out of cash in 2015, buying some time for the operating unit to settle on a restructuring plan.

CreditSights said in its May 7 report that Caesars' PE sponsors are "still exposed to CEOC bankruptcy risk," although the potential impact is mitigated by the modifications to the parent guarantee.

The research firm expects that Caesars will pursue a distressed-debt exchange that would target its second-lien debt.

Spokeswomen for Oaktree and Canyon Capital and a Caesars spokesman declined to comment, while officials at Appaloosa, Goldman Sachs (GS - Get Report) Jones Day, and Kramer Levin didn't respond to requests for comment. - Jonathan Schwarzberg contributed to this report

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