Golaccio! – Inter Milan issues European Junk Bond

Yesterday we saw Inter Milan issue the first football related high yield bond since we saw Manchester United tap the market back in January 2010. Putting aside the natural tribalism of 2 of my esteemed colleagues (both Italian, both ardent AC Milan supporters), we decided not to invest in the €300m 4.875% 2022 bond.

In terms of fundamentals, legal claim, and relative value, the bond stacks up fairly well. Inter Milan is a well-established club with a solid fan base and is currently top of the table in Serie A. As such the club is well placed to generated sustainable revenue from broadcast rights and monetise its brand through sponsorship deals. The risk to revenue, at this stage at least, from sustained poor performance on the pitch seems low. This is important as the bond is structured in a way that means bondholders are effectively lending against the cash flow generated by the club’s media and sponsorship agreements, not the cash flow of the club as a whole. Crucially, this removes a major potential negative factor: the issue of cost inflation in the form of ever-increasing wage demands from players.

Also, at 4.875% for a BB- rated bond, the coupon looks good value compared to the rest of the European High yield market with average yields for BB corporates at 1.8% and 2.5% for the high yield market as a whole.

So what’s the problem? In our view the key issue is how the bond’s maturity profile and potential cash flow is mismatched. The bonds are subject to the following amortisation schedule:

Mandatory Amortization Redemption and Principal Repayment Date Principal Amount

December 31, 2018 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . € 3,100,000

June 30, 2019 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . € 3,150,000

December 31, 2019 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . € 3,250,000

June 30, 2020 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . € 3,300,000

December 31, 2020 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . € 3,400,000

June 30, 2021 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . € 3,500,000

December 31, 2021 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . € 3,550,000

June 30, 2022 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . € 3,650,000

December 31, 2022 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . €273,100,000

In this case, the amortisation is welcome, but the amounts that are mandatorily repayable seem insignificant relative to the outstanding amount of debt. Over €270m of an original €300m issued is effectively a bullet maturity. At the same time, if the club meets certain financial tests, any surplus cash flow generated by broadcast and media rights can then be distributed to other entities over which the bondholders have no legal recourse. This could mean, in extremis, that the structure re-leverages over the life of the bond with increased re-financing and credit risk even if the club performs well and monetises this success.

So despite being undisputedly the best football club in Milan right now, we think the devil is in the detail when it comes to Inter’s debut bond issue.