Introduction

Tulsa, Oklahoma, based Williams engaged in energy related businesses, including exploration
and production, pipelines, energy trading and telecommunications. In 2001, it was faced with
financial distress due to collapse of telecommunications business, softness in energy markets,
plummeting stock price, etc.
These issues led the down gradation of credit rating by the agencies Moodys and Standard &
Poors. In 2002, a new CEO, Steven J. Malcolm, was appointed. Malcolm realized that to take
the company forward it needs to raise capital. So, Williams concentrated on raising financing in
variety of forms and cutting back on capital spending. External financing was also sought to help
meet current cash flow needs. The decision that needs to be taken is whether to accept a
financing package offered by Berkshire Hathway and Lehman Brothers. The new agreement
would provide Williams with a funding of $900 million for one year.
1

Evaluate the terms of the proposed $900 million financing from the perspective of both
parties. How would you calculate the return to investors in this transaction? If you need
more information, what information do you need?

Williams

Williams had a number of downgrades by rating agency, combined with the increasing
required yields of corporate bonds and an on going crisis on the financial markets is
making it almost impossible to find investors willing to lend funds

The short-term loan will give the company time to improve its structure and ratings

Enhancing the company asset structure and liquidity can make it possible to raise debt at
a lower cost by the time the loan matures in one year

Also, more of the company assets can be sold out to both raise capital and reduce
maintenance and support costs for its facilities and save from working capital
enhancement and operating expenses cuts.

The cost of the loan is extremely high, but might be the only option that will allow the
company to stay in business and prevent bankruptcy for its foreseeable liquidity problems

The high cost of the loan can hamper the ability of the company to make the necessary
operational improvements and capital investments that are necessary to improve
profitability and increase liquidity.

BH & Lehmann

Appear to be able to gain significant profit from the project. Williams has been a
profitable business and the financial distress it is facing currently is due to the economic
and industry downturns

The proposed $900 million credit facility provides security to Berkshire Hathaway and
Lehman Brother through a pledge on assets of RMT, which are worth about $2.8 billion

In addition to paying approximately 5.8% per annum, it pays an additional 14% which is
added to the principal payment. Williams also owes a deferred set up fee; the lenders will
receive 15 % of the loan or 15-21 % of an eventual sale of Barret's assets

Lehman Brothers and Berkshire Hathaway require Williams to maintain fixed charge
coverage ratios of at least 1.15 and interest coverage ratios greater than 1.5. Restrictions
on capital expenditures also apply. The lenders also have the right to attend the Board of
Directors and committee meetings.

From the standpoint of the lenders, the investment has a very good return that should
reward for the risk they are taking.

Returns
1. The Annualised return for Lehmann & BH from the project was calculated as 35.5%
2. Assuming if RMT assets are sold at the end of loan for $ 2 billion
Gain = 2000-900 x 0.21= 231
IRR = 10%
Annualised IRR = 46%
Ques 2 What is the purpose of each of the terms of the proposed financing?
The terms of the proposed financing option by Berkshire Hathaway and Lehman Brothers were
designed in order to deal with three major problems
1. Asymmetric information between Williams management and the creditors
2. Conflicts of interest between the various creditors
3. Agency conflicts between the shareholders and creditors
The purpose of each of the terms of the financing can be summarized below
Terms of financing
Deferred set-up fee

Maintaining interest coverage ratio of more

than 1.5 to 1
Maintaining fixed charge coverage ratio of
atleast 1.5 to 1
Limit the restricted payments, including
redemption of capital stock of Williams
Limit capital expenditures more than $300

Purpose
The set-up fee was deferred so as not to burden
Williams company with the obligation to pay
upfront. If the company does well, then later
the creditors can charge them
To address the issue of asymmetry of
information between the management and
creditors as the creditors would not be well
aware of the true state of financial distress,
these conditions ensure that Williams has
sufficient cash flow to meet its financial
commitments
To prevent agency conflicts - If the value of

million
Limit intercompany indebtedness
Attendance right to all the board of directors
meetings

Maintaining parent liquidity of atleast $600

million
In the event of insolvency, Williams must
retain Lehman Brothers within 75 days to sell
the RMT assets
Securing loan with RMT assets

Williams liabilities exceeds the value of their

assets, equity holders will try to convert any
new funds into cash, or to receive these funds
in the form of a dividend
To ensure that the decisions taken in such
meetings are favourable to the lenders as well
as to the equity holders
To reduce the asymmetry of information
between the Williams management and the
lenders
To protect the interests of Berkshire
Hathaway/Lehman Brothers, so that in case of
bankruptcy, they can be sure of their claim
Fearing bankruptcy, equity holders prefer
decisions that put the underlying assets of the
firm at risk in return for increasing the
probability that they receive a significant
payoff in the future

Q.4 Some might describe Williams as financially distressed. What evidence is there that
Williams business may be compromised as a result of its previous financial decisions?
Williams had a liquidity crisis in early 2002 when Malcolm was appointed as president,
chairman and CEO. It had slashed the dividend by 95%, cut back on capital spending and
planned more than a billion dollar of asset sales. Its priority was to raise cash and gain access to
cash. In 2002 the yields on some of the Williams public traded bonds had skyrocketed. We can
describe Williams as financially distressed from the above mentioned conditions of the firm.
Williams has been led to this situation due to economic conditions and its erroneous decisions to
tackle the challenges. Williams had spun off its telecommunications business as Williams
Communication Group (WCG). It raised capital through IPO by listing WCG and issuing debt of
$ 2.3 billion for WCG. But, soon after the IPO, it started facing problems due to the economic
downturn and an infamous shakeout in the telecom sector. The communications industry had
oversupply; it was estimated that only 2-5% of the fiber optic lines in the US were carrying
traffic. The bandwidth prices plummeted by more than 90% during 1998 to 2002. Many firms
reduced investments and laid off workers. So, the prospects of the newly independent and debtladen WCG became uncertain. Williams took steps to support its subsidiary.
Williams converted a $975 million promissory notes from WCG into 24.3 million newly issued
shares of WCG equity. In addition, it provided indirect credit support for $1.4 billion of WCGs
debt. Even though these obligations were off the balance sheet, Williams was expected to
perform on these if WCG faced problems.
In 2001, the news about Enron and Global Crossing exposed significant problems in the telecom
sector. WCG was unable to meet certain covenants constituting a breach of its lending
agreements with its secured creditors. Rating agencies downgraded WCG reflecting weakness in

recent financial performance, lack of forward visibility, and exposure to customers whose risks
are increasing. Following WCGs disclosure to reorganize, Williams wrote off its investments in
WCG and took a one-time charge of $1.3 billion related to guarantees and obligations.
Following the Enron crash, Williams was facing problems in its energy trading business and
most of its competitors were also scaling down due to the uncertainty in energy trading
businesses. In April 2002, The Wall Street Journal reported that Williams Company was facing
an inquiry by the SEC about its financial reporting.