waxpaperbeercup

Well, it was just like old times when I exchanged a few emails with my old 1060west pal gaius marius recently. For those of you who don’t know, gm follows the markets for a living. He understands the financial crises better than anybody I know.

I exchanged a few emails with gm and got his take on how the financial crises (yes, he answered in lowercase) will impact the sale of the Cubs…all I can say is good luck Sam Zell.

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wpbc: We first heard the Cubs were for sale on Opening Day 2007. It is now October 2008. Why has this process taken so long?

gm: short answer: the credit crunch. tribune would certainly like to sell the cubs — or, for that matter, a lot of their assets, as they are failing and need cash desperately — but the parties that were last year interested in buying the team could under no circumstances actually finance the purchase of the team on reasonable terms today.

wpbc: A couple weeks ago Mark Cuban was in town and he mentioned that the banks may not be able to close this sort of deal, he said: “Even if we wanted to close the day after tomorrow, the banks might not be able to close.” Is that true? If so, do you see there being anyway a deal like this can be done in the next 6-12 months?

gm: yes it’s true — there’s no “might” about it — and no i don’t see a deal in the next year — at least not one attractive to tribune. i think that the window was open and it is now shut.

if i may prognosticate — expect the major money center banks that would last year have financed this deal to, sometime in the next 18 months or so, be explicitly nationalized by the federal government. citibank, jpmorgan, bank of america — despite what popular perception may be, none of them are likely to survive without being taken over and restructured by uncle sam. so far from taking on new loan risk, these banks will be finding ways to sell off their assets and hoard cash (including what they were just given by the treasury last week) to hold against loan losses already in the pipeline as recession deepens. and even that will very probably not be enough. the banks are in the process of being broken.

wpbc: Sam Zell wants this deal to be highly leveraged to avoid a huge tax bill, can you explain to me in simple terms how this works and how it helps the Trib avoid taxes? If somebody offers cash, is that a bad deal for Zell?

gm: zell is one of the american demigods of tax avoidance, and he reportedly wants a deal very much like the one used in his sale of newsday. as i’ve seen it explained in fortune — let’s say he finds a buyer for the team at $800mm. tribune would then put the cubs into a partnership, into which the buyer would also put $820mm of promissory notes (corporate IOUs). the partnership would then borrow $800mm using the notes as collateral, and would then pay that as a “distribution” from the partnership to tribune.

the result is that the trib would end up with $800mm in cash (and a very small residual interest in the cubs), the buyer ends up with almost all the interest in the cubs and a big loan to repay — which, by the rules to maintain the tax advantage, they could not start paying off for nearly ten years. chances are the team revenues would have to finance the debt service for that period. the cash transfer to tribune is supposedly a “distribution” from a leveraged partnership — and NOT proceeds from a sale — and therefore is nontaxable, saving tribune something like $250mm in taxes. the IRS is already sniffing around the newsday deal, though, so while it would save the trib from having to pay now they may have to pay when the feds catch up. of course, “someday” the trib may be bankrupt.

i see even tribune itself ran a story today on MLB’s wariness of such a deal structure. they have fish to fry as well, and don’t want to raise government hackles amid a financial crisis. and there’s the difficulty of being able to raise such a loan right now.

it isn’t a “bad” deal if the cubs were straightforwardly bought from tribune — that’s how most everybody does it — but it is a difference of hundreds of millions of dollars in taxes because tribune’s cost basis on the cubs is so small ($25mm, iirc) and therefore their capital gain so large.

wpbc: The Tribune needs this deal to go through, because they have $600 million on a loan coming due in June, will this deal be done by that time? If not, do you think they can move other assets?

gm: i expect tribune will default. even if the staggering banks were to recover their footing somehow, financing leveraged buyouts (of ballclubs, no less!) is not on the to-do list. and tribune will have a LOT of company — current credit-default swap indexes of leveraged loan deals (ie, bets placed on the likelihood of default on loans of the kind tribune took on when zell bought them) are currently indicating that 73% of all such loans will default next year. think about that for a moment. and further consider that zell’s tribune deal was one of the most highly levered, and into one of the most damaged and vulnerable industries in the corporate universe.

wpbc: The Tribune is now going to keep a bigger stake in the team. Is this a result of them needing to get some money from this sale to pay down their debt?

gm: it may simply be a result of the tax avoidance scheme mentioned above. they would retain a small slice of the partnership that owns the team as a natural consequence of such a transaction. characterizing it as some sort of rooting interest in the hometown club is pure spin for public consumption.

wpbc: On the field(sort of), do you see the Cubs continuing to spend money this offseason?

gm: the cubs aren’t reliant on tribune for their cash flow, so i don’t see why they can’t operate as a self-contained unit — provided, of course, that tribune doesn’t start diverting cash to help pay for operations in the larger scheme. and that is possible, of course, as tribune is in very dire straits. it may not be likely, but i would rule nothing out — including perhaps even an attempted sale of players for cash. tribune’s problems are considerable.

wpbc: In your opinion? When does the deal finally get done? Who buys the Cubs? How much?

gm: that answer is likely to be intimately tied up with the return to health for the banks, and that is not a question i or anyone has an answer to. there’s also the question of what would happen if the tribune went belly up and was restructured or liquidated. from my perspective, it’s an unanswerable question. but i will suggest (as i did back on 1060w) that the deal size is probably declining steeply — we are experiencing a serious asset deflation in the united states for the first time since the 1930s as a stunning excess of borrowed money is wrung out of the system, and ballclubs are no more immune than houses and used cars.

wpbc: Thanks man, I’ll pimp your blog.
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I’d like to thank my good friend gm for taking time out to answer these questions. As you can see this is a very complex situation. Zell may have waited his way into a real pickle not selling the team at the end of 2007 as was the original plan. I promised to pimp his blog, so here is a link to gm’s blog.