Leveraged Loan Markets

Reflecting Thus Far & Themes For Investing In Debt Via Secondary Trades

by

Sachin Sarnobat

(917) 940 9793

October 2008

Preface

Over the last several years, private equity, a word that was once whispered by hushed voices has now become common parlance. The leveraged buyout

boom of the last several years made kings out of private equity players, but the king-makers in this boom were the institutional, leveraged loan investors.

Sadly, they are the ones who are ‘left holding the bag’ after the kings abdicated with the treasury.

Beginning in 2003, institutional players began dominating the leveraged loan market. Cheap liquidity raised via the CLO structures was the main driver and

eventually created excess supply. Innovations in the credit derivatives market led investors to believe that risk was truly being held by those who could

afford it. The main impact of these developments was wafer thin credit spreads and later, loose lending standards.

Concurrently with these developments, the so called decade of moderation ushered in global growth and a “decoupling” of the rest of the world from the

American growth engine. The side effect of this optimism was robust growth projections and unbridled consumer spending that supported capital spending

by corporations. Asset bubbles took over and attracted additional pools of capital from the public as well as private markets.

As the asset bubble burst, the 2007/08 credit crisis created a wide spread dislocation in the leveraged loan market because of fundamental as well as

technical reasons. This report seeks to identify some of the structural nuances and understand implications of this dislocation from a secondary debt

investors standpoint.

This report is divided into the following sections:

• Key implications of the last several years (p3)

• Broad investment themes (p9)

• How did we get here? (p13)

• Corporate Issuers vs. LBOs (p21)

• Demand & supply technical factors (p25)

• Spreads & recovery by sector (p29)

• Analysis of secondary trading data (p33)

I look forward to your comments. Thank you for this opportunity.

Sachin Sarnobat

October 2008

New York

2

Key Implications of The Last Several Years

3

1. Increase In First Lien LeverageUnder-collateralization, Decreased Visibility, Value Leakage, Over-Levered Cash Flows

Institutional Lenders Inadvertently Subverted The Practical Intent of Low Cost Leveraged Loans

4

Features Practical Intent What Changed Implications

Fully secured

on a first lien

basis

• Preserve value for investors even in a case of a downside scenario

• Depends on the lenders attestation of “asset values” and

“liquidation values”

• Usually a cushion between the liquidation value and the amount

of debt is provided

• Global asset bubble,

inflated underlying asset

values

• Under-collateralization

Maintenance

Covenants

• Provide investors comfort that the borrower is adhering to its

operating plan and is inline in achieving the business objectives

that were outlined when the money was loaned

• Incase the company deviates from operating plan, investors have

a “hammer” to force the company to “come to the table” and

adjust/compensate investors for the increased risk

• Looser covenants with

greater head room

• Fewer covenants

• Covenant-lite loans

• Decreased visibility of company operating

performance for investors

• Lower likelihood of intervention will in

advance of distress

Cash Flow

Sweeps

• Cash flow sweeps are designed to force the company to de-lever

and hence minimize the principal-agent problem by providing

debt discipline

• Creates value for junior capital as the sweeps reduce secured

claims on the underlying asset over time

• Lower cash flow sweeps

with looser step-ups

• Equity markets were

ready and willing to

provide liquidity to take

private companies public

• Management could now try to take on “Hail

Mary” projects – thus increasing the risk of

destroying capital

• Increased sponsor ownership provides

incentive to use available cash flow for

restricted payments, causing value leakage

to debt investors

• Sources of equity proceeds have dried up

Fraction of the

entire capital

structure

• Traditionally, secured first lien leverage with maintenance

covenants formed a small fraction of the capital structure

• This ensured that companies were able to meet maintenance

covenants even with significant deviations from operating plan,

but the presence of the maintenance covenants kept them on

track

• Bond heavy structure with a small first lien loan component

provided a borrower with a solid defensive structure to withstand

downturns, but at the same time, optimize cost of capital by

availing of cheap debt capital via leveraged loans

• Leveraged loans because

the dominant part of the

capital structure

• Good quality companies that are over-

levered on a first lien basis

• Companies that needed a bond-heavy

defensive, structure were now levered to

the hilt with maintenance covenants

80

70

56

24

63

44 43

0

10

20

30

40

50

60

70

80

90

Revolvers Term Loans Sr. Bonds Subordinated Bonds

Secured Unsecured

• Loan loss varies from cycle to cycle and in this cycle will depend:

– Quality of loans and intrinsic credit quality

– Under-collateralization due to overvalued assets and over-levered cash flows

– Level of subordination at the time of default

• An increased use of asset based and non-recourse debt has left highly liquid assets like inventory and receivables encumbered

– Severity of downturn

• Depth of current recession is expected to be worse than the previous ones and asset values will take longer to recover

– Expected market value of defaulted assets

• Lack of liquidity for buyers could force more liquidations versus bankruptcy reorganizations

– Maintenance covenants (or lack thereof)

• This cycle this aspect will determine how soon lenders will be able to intervene and prevent collateral and recovery value erosion

• The current loan spreads imply a average default rate of 20% at 50% recovery rates

– Room for significant upside if default rate are lower or recovery rate are higher or both

– See p37 for additional analysis

Recovery Rates Could Between 50-60 Driving Factors & Implications

2. Lower Recovery Values & Higher Default RatesRecoveries Will Be Closer to Those for Unsecured Loans because of Under-collateralization

Discounted Recovery Rates By Instrument Type (1987 – 2006)

• Historically from 1986-2006, nominal recoveries have

been 80 and discounted recoveries have been about 70

cents on the dollar for secured term loans

• The difference between nominal and discounted

recovery rates is the time value from the pre-petition

date from when the borrower halts interest payments to

the time of recovery

5Source: S&P Fixed Income Research; US Recovery Study: Liquidity Avalanche Propels Recovery Rates Into Stratosphere, February 2007Various public news sources.

Covenant Headroom Increased Lenders Will Have Negotiating Leverage

3. Lax Covenant Structures Based On Bullish ProjectionsCompanies Will Need Lender Support For Amendments / Waivers

6

Year One Debt/EBITDA Headroom as a Percentage of Covenant Level for LBOs Lender Consent Required For Waivers/Amendments

Effective Covenant Cushions Will Now Be Tighter

Illustrative Covenant Calculations

($,mm) Yr.0 Yr.1 Yr.2 Yr.3

Projected EBITDA $100 $120 $132 $139

growth 20% 10% 5%

Interest $50.0 $45.0 $40.0 $35.0

Projected Covenant 2.0x 2.7x 3.3x 4.0x

Headroom or Cushion 25% 30% 35% 35%

Threshold EBITDA (1)

25% $75.0 $84.0 $85.8 $90.1

Covenant Level 1.5x 1.9x 2.1x 2.6x

Realistic Projected EBITDA $85 $89 $98 $103

Discount 15% 26% 26% 26%

revised growth 5% 10% 5%

Realistic Covenant 1.7x 2.0x 2.5x 2.9x

Threshold EBITDA $85 $89 $98 $103

Actual Cushion 15% 26% 26% 26%

Decrease In Cushion (10%) (4%) (9%) (9%)

• Given that most of the loans have been trading well below par, any amendment/waiver request is likely to be expensive

• For transactions that actually have covenants, slightly looser covenants will probably NOT be the key issue

– Covenants were based on bullish projections, and given more sober revised outlooks the cushions will now be much tighter

• Liquidity management will be critical for companies that had planned to invest and grow sales

– Given the much greater leverage on the companies, positive cash flow and access to liquidity could be an issue

– The credit crunch will make raising new debt capital difficult

• Management will have to work with lenders to secure covenant amendments/waivers as well as secure additional external sources of financing

24%

19%

25%23%

27% 26%23%

28%

24%

17%

0%

10%

20%

30%

1999 2000 2001 2002 2003 2004 2005 2006 2007 1Q-

3Q08

(1) Minimum EBITDA required to comply with covenant requirements,

• Company proposal in return for covenant

amendment

– $100 million pay down at par as part of the

economics of the amendment.

– 50 bps spread increase that would take pricing to

L+425

– 3% LIBOR floor extension

– 150 bps fee on post-paydown outstandings

• $1.43 billion term loan was put in place in conjunction with Dana’s exit from Chapter 11 earlier this year

– The loan is currently priced at L+375 and includes a 3% LIBOR floor for two years

– The paper was issued at a 90 OID

• Dana (BB-/B1 corporate) announced significantly weak results

– Third-quarter EBITDA of $15 million was $111 million below results for the same period in 2007.

– Lower production and higher steel costs of $140 million more than account for this reduction

– Results also included higher pricing, cost savings, and unfavorable currency changes

– Dana is planning up to 10 additional plant closures in 2009 and 2010, and it has expanded its targeted 2008 workforce reduction to 5,000 from 3,000

– YTD EBITDA of $290 million vs. $373 million for the same period in 2007

– Full-year sales of $8.2 billion and EBITDA of $300 million expected

• Dana maintaining large cash reserves to preserve access to liquidity

– The auto supplier had a $1.0 billion cash balance at Sept. 30, including $180 million that it drew during October from its $650 million revolving credit

• Free cash flow of negative $151 million for the third quarter was about the same as that during the same period in 2007

Lenders Can Extract Value + Readjust Terms Company Situation

Case Study: Dana Corp. – Value of CovenantsThe Auto Supplier Completed an Expensive Amendment Seeking Covenant Relief

Par paydown + coupon +upfront fees + LIBOR Floor Weak earnings indicative of sector underperformance

• The automotive supplier is projecting year-end non-compliance with the covenants on its term loan

– The company was in compliance with the 3.1x total-leverage test as of Sept. 30

– However, the leverage covenant is due to step down to 2.9x on March 31, 2009, with additional step-downs in subsequent quarters

• The term loan is quoted at 63.5/65.5 with the entire auto sector is under pressure

Having Covenants Is Critical For Value Capture

Term Loan trading under 70 / Total Leverage Covenant of 2.9x Breached

7

Asset Values Increased… Other Peoples Money

4. Thin Equity Cushions With No Sponsor SupportPrivate Equity Sponsors Will Act In Their Self Interest, Often To The Detriment of Lenders

Average Purchase Price Multiples Of LBO Transactions Sponsor Ownership Will Act Against Debt Holder Interest

…With Lower Equity Cushions

Average Equity Contributed As % of Total Purchase Price

8

28%30% 32% 31% 31%

27%30% 31% 31%

38%

20%

30%

40%

50%

1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 1Q-

3Q08

Public-to-Private All Other

• Unprecedented availability of cheap liquidity led

tight equity cushions in recent LBO transactions

– Eq. In the Tribune transaction, the present value of the

tax savings was presented to the debt investors as part

of the equity cushion

• The tax savings were only important as long as

Tribune was earning positive taxable income

• As the business performance has gone south, the

present value of the tax savings has diminished

• Sponsors acting to maximize returns to their

limited partner investors, do not have enough “skin-

in-the-game”

• Equity investors can usually intervene in troubled

companies and support the going concern value by

providing liquidity and recapitalizing the business

– The main motivation is to preserve the residual value

of the equity holders

• Sponsors have taken the opposite path by going

down the dividend-recapitalization route

– Companies that have been over-levered because of

sponsor dividends will face challenges in terms of

raising additional equity capital

2.4 2.4 2.6 2.2 2.3 2.5 2.6 2.3 2.6 2.9 3.5 4.2

7.9 8.1 7.7

6.3 6.1 6.57.1 7.4

8.2 8.6

9.8 9.7

0.0x

2.0x

4.0x

6.0x

8.0x

10.0x

12.0x

1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 1Q-

3Q08Equity/EBITDA Others Sub Debt/EBITDA Senior Debt/EBITDA Total

Source: S&P LCD Comps

5. Access to Take-Out Capital Determines Returns TodayTake-Out Capital Supply is Lower Than Initially Invested, But Will Grow Over Time With GDP

9

Type Source Requirements for Target Investment

Internal Organic Cash Flows

- Strong franchise values that sustain

through the cycle

- Access to liquidity

Desirable(Higher Rated)

Equity Markets - Franchise value can support growth

Debt Markets- Well known issuer that has good

relationships with debt investors

Ch-7 Liquidation- Easily separable assets

- Readily identifiable buyerLess Desirable

(Lower Rated)

Limited Access None Ch-7 Liquidation

- No access to incremental liquidity

- Excess capacity in industry

- Weak competitive position

- Fundamental industry restructuring

?

Ch-11 Reorganization

- Availability of DIP Financing

- Customer lock-in and influence over

suppliers that preserves value through the

reorganization

- Access to public/private capital markets

for bankruptcy exit

External

Take-Out

Capital

Available

Broad Investment Themes

10

Investment Themes Relevant In Current Environment

11

Theme Sector Related Issues Company Related Issues

Discretionary

Consumer

Spending

• Discretionary consumer spending that

drives almost 70% of the US GDP was

significantly over estimated

• Capital expenditures that were

committed to before the crisis could

cause significant over-supply

• Avoid sectors that were levered for robust

consumer spending cash flows

• Avoid sectors that have fixed costs and high

capital expenditures

• Commodity vs. differentiated value proposition

• Differentiated value proposition needs to be

sustained, quality driven, non-discretionary and

important to customer’s competitive advantage

Recession • The recession trough could be much

deeper than past recessions and last

much longer

• Pick defensive sectors that serve a core

customer base that provide critical services

• Even if margins decline, ability of companies

to avoid negative cash flows will determine

survivors

• Pick companies with high degree of variable costs

that can be cut as sales decline

• Capital structures will need to be defensive

Liquidity • Banks are undercapitalized and access

to liquidity will be severely constrained

• Pick sectors that are not capital intensive

• Additionally, because of asset-light nature,

these sectors should have strong brands,

proprietary intangible assets, value-added

service oriented components

• Company should have revolving credit facilities as

well as room under its credit

agreements/indentures that offer flexibility to

execute asset based lending agreements

Capital Spending • Capital spending will be deferred

because of lack of financing

• Pick sectors that need capital expenditures

based on replacement cycles

• Pick companies with access to liquidity over the

next several years with reliable counterparties

• Backlog driven industries with strong credit

worthy customers

Marginal

Producers

• Marginal producers will be

disproportionately hit

• Sectors where capacity utilization affects

pricing will favor level utilization companies

even if they are not the lowest cost

producers

• Producers that supply the last x% of demand at

premium pricing will be affected

Obsolescence of

Business Models

• Sectors like Auto, Residential Homes,

that relied heavily on availability of

financing will have to be restructured

• Complementary industries will suffer

• Too much uncertainty for non-investment

grade, highly levered borrower

• Need to look to collateral values of the market

leader in these sectors

• Smaller players could be squeezed from not being

able to re-write the rules of the game to their

favor

Investment Themes Relevant In Current Environment

12

Theme Sector Related Issues Company Related Issues

Sponsors • In a distressed scenario, sponsors

should be able to provide equity

injections to keep the business solvent

• Certain sectors such as retail,

chemicals saw dividend

recapitalizations mere months after

the companies were taken private

• Sponsors should have enough “skin-in-the-game” to care,

else if the sponsor has taken a dividend off the table then

solvency in a distressed scenario could lead to bankruptcy

fairly quickly

US vs. Non-US

Revenues

• Exposure to fast growing Asian markets • Sectors that are regionally

serviced/supplied via a local

franchise

• Market leadership in fast growing markets and access to

liquidity to support market share growth

Bankruptcy • Even if bankruptcy is the optimal

answer to keep going-concern value,

current downturn might depress asset

values, and not provide liquidity to

potential buyers

• If entire sector is distressed, then

bankruptcy reorganization could

lead to liquidation versus a sale and

might not maximize value

• Company need to be in jurisdictions that are friendly to

enforcing on liens and where bankruptcy reorganization

does not cause value leakage to junior capital

Size • Mega-LBOs like TXU and HCA would not

have happened without the level of

cheap liquidity

• Great companies with premium

franchise value even if leverage is a

concern

• Mega-LBOs in “toxic” sectors like

Autos, Financials will be challenging

to execute successfully and exit

• Any governmental intervention

increases uncertainty

• Need to verify underlying collateral value and structure

that will enable lenders to capture that value for par

payback on the secured loan

• Mega-LBO candidates were market leaders in their space

and provided strong, stable cash flows

• Need to verify that sponsors have “skin-in-game” and are

pre-dividend recapitalization

• These companies will make excellent IPO candidates when

the equity markets open again

Structure • Covenant-lite, PIK Toggles, Incurrence

Term Loans

• Need strong understanding of the sector as well as

company to understand the level of distress

• Lack of covenants will add a level of complexity to

negotiate with borrower

Working Capital • Working capital management will be

focus of most management teams

• Sectors that traditionally involved

supplier financing will get squeezed

because suppliers lines of credit will

no longer be able to support them

• Strong customer power will require suppliers to finance

inventories at their own expense

What Makes An Ideal Target for Debt Investments?Strategic Analysis of Company vis-à-vis Buyers, Suppliers & End-Consumers

13

Suppliers Ideal TargetCo Buyers or Customers End-Consumer

• Large number of smaller

suppliers that are

commodity pricing driven

• Excess capacity in supplier

industry

• Specialized suppliers

dependent on specific

industry demand

• Suppliers that have access

to vendor financing

facilities to provide credit

lines to TargetCo

• Located close to TargetCo

and provides lock-in

In a recession scenario, the ideal TargetCo will have:

• Customer lock-in via contracts in the “right” industries

• Customer switching costs that need cash expenditure

• Companies that help their customers achieve and sustain cost competitiveness

• Ability to assume a greater number of buyer activities more efficiently and cross sell

additional services to enhance revenue

• Ability to find new, alternative product markets

• Constant utilization companies will have lower costs even though smaller competitor s

grow faster during the upturn

• Strong regional franchise

• Industries that do not have a need for extensive marketing/advertising

• Low working capital needs because of well capitalized buyers

• Lean operations with non-critical operating activities outsources to lowest cost producer

• Experienced management team that has seen a previous downturn

• No adverse regulatory pressures

• Defensive capital structure with presence of bonds to minimize maintenance covenants

• Smaller than Company

• Profitable, well capitalized

• Replacement cycle driven

• Depends on TargetCo to

provide goods or services

critical to its competitive

advantage with end-

consumer

• Quality driven needs

• Customization driven with

heavy interaction between

respective teams

• Small portion of end

product costs

• Ability to out-source

additional services to

TargetCo

• Avoid customers that could

demand specific

performance and

potentially renegotiate

contracts in a bankruptcy

scenario

• Demands differentiated

product based on sustained

value proposition

• Cost of low-quality is high

• Few substitutes

• Not discretionary buyer

• Stable base of necessity

driven buying behavior

• Replacement need or

maintenance driven buying

pattern

• In case of service industries,

recession resistant needs

like healthcare services

• Geography of end-

consumer will play a factor

Product Focus Industry Focus

Product focused companies specialize in

an application of their technology across

various industries

Industry specialists provide a broad range of

services for a tailored to a particular industry

and depend on the health of that industry

and related industries that support it

Ideal players would have:

• Quasi-monopolistic markets

• Proprietary technology

• Complex product or patents

• Some economies of scale that prevent

industry specialists from competing

with them and allow them to be lowest

cost producers

• If product is simple, cost focused

customer

• If product is complicated, quality

focused customer, but without need

for extensive customization

• Variable costs that can be cut at short

notice with decreased revenues

Ideal players would have:

• Industry leadership, market share, brand

• Customer demanding specialization,

customization

• Complex assets like factories that need

significant investments

• Oligopolistic markets that understand the

dynamics of capacity driven pricing because

fixed costs create penalty for

underutilization

• Should not be marginal producer

How Did We Get Here?

14

201 168 101 117 121

233 286 277

465 527

114

209 184

139 105 81

74

112 112

159 149

59

$0B

$100B

$200B

$300B

$400B

$500B

$600B

$700B

$800B

1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 YTD 7/08

Institutional Bank

2 1 0 2

72

229

409

261 251 220

00

100

200

300

400

500

1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 3Q08

Leveraged Loan & High-Yield Bond VolumesInstitutional Ownership Fueled Leveraged Loan Issuance and The Subsequent Debt Boom

75 100 126 130 136 147 184 235 376

522 554

0 1 9 12

24

35 32

16 14 16 19 39 66 71

63

66

71 81

159 182 231 260

335 374

396 461

495

531 551

71 79

91 94

121 121

121

119

113

107 121

$0B

$200B

$400B

$600B

$800B

$1000B

$1200B

$1400B

1998 1999 2000 2001 2002 2003 2004 2005 2006 2007YTD 7/08

First Lien Second Lien Sr Secured Sr Unsecured Subordinated

Pre-2003 Banks Dominated The Leveraged Loan Market, But Institutional Demand Took Over And Multiplied from 2004-2007

The Demand/Supply Mismatch and Increased % Institutional Ownership, Led To Looser Lending Standards

# Transactions Without Upfront Fees Institutional Volume Outstanding: $1,338bn

% Institutional Ownership of Leveraged Paper# Transactions Without Upfront Fees Is an Indicator of Demand Vs. Supply

15

41

%

3%

6%

41

%

9%

44%

0%

10%

20%

30%

40%

50%

60%

Jun-96 Oct-97 Mar-99 Jul-00 Nov-01 Apr-03 Aug-04 Jan-06 May-07 Oct-08

Institutions

Banks

0% 0% 0% 1%

36%

67%86% 93% 86%

40%

0%0%

25%

50%

75%

100%

1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 3Q08

6 15 17 15 13

29 33 47 52

93 98 90

23 4 7 2 13

1217

22

4655

44

111

46

14

21

14

4

4

7

4

0

50

100

150

200

1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 1Q-3Q07 1Q-3Q08

$500 million-$1 billion $1-2 Billion $2-5 billion $5 billion or more

The Top 10 Accounts Got Larger Increased Number of Institutional Investors

Mega-Accounts Lead To Mega-LBOsAs The Market Was Overrun by Cheap Liquidity, Deals Grew Increasingly Ambitious & Issuer Friendly

…resulting In Mega-LBOs i.e. Companies That Would Not Have Experienced Those Levels of Debt

16

Top 10, 10-20, 20-30 Account By Size ($,mm) Investor Groups that Made 10 or More Primary Commitments Each Year

22 2948 54

42

6476

98116

168

218

261

79

0

50

100

150

200

250

300

1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 3Q08

Number Of LBOs (#)

23 36 48 25 26 41 64 65 82 110

277

128

58 74

151

43 39 69

91 122 130

232

357

237

--

100

200

300

400

500

600

700

800

900

1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 3Q08

Top 10 Accounts By Size 11-20th Account by Size 21-30th Account By Size

Source: S&P LCD Comps

8.8

7.16.7

5.35.0 5.1 5.3 5.2

5.8 5.6 5.24.5

4.0 3.7 3.8 3.9 4.2 4.3 4.44.9 4.7

4.33.6

3.9

0.0x

2.0x

4.0x

6.0x

8.0x

10.0x

1987 1988 1989 1990 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 4Q07 1Q08 2Q08 3Q08

Sub Debt/EBITDA Other Sr Debt/EBITDA SLD/EBITDA FLD/EBITDA

4% 6% 5% 6% 10% 13% 11% 17%28% 33%

57%44%

14%18% 18% 19%

20%24% 23%

37%

39%42%

28%41%

82% 75% 77% 75% 69%62% 66%

46%33%

25%15% 15%

0%

25%

50%

75%

100%

1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 1Q-3Q08

2 or less 3 4 or more

2.32.6

0

1

2

3

4

5

1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 1Q-

3Q08

FirstLien

Total Debt

Number of Covenants Dropped Below Three… …and 60% had Two or Fewer Covenants

Debt Multiples & Covenants Over TimeIncrease In First Lien Leverage With Loose Covenants Incurred In A Bullish Market

First Lien Leverage Increased To Levels Only Second to 1987

Note: For years 1987-1996 Sub Debt/EBITDA reflects all Non Bank Debt/EBITDACriteria: Pre-1996: L+250 and Higher; 1996 to Date: L+225 and Higher; Media Loans Excluded; There were too few deals in 1991 to form a meaningful sample

Number of Covenants (Excludes Covenant-Lite Transactions) % of Covenants (Excludes Covenant-Lite Transactions)

17

Leverage & Coverage MultiplesAs The Market Was Overrun by Liquidity, Deals Grew Increasingly Ambitious & Issuer Friendly

18 27 55 70 74 71 1072715 20

51 52 52121

141

2624 22

3856 61

13688

2222 19

3236 43

51 78

1513 10

1933 16

3539

926 23

3938 32

5173

16

$0B

$100B

$200B

$300B

$400B

$500B

Dec-01 Dec-02 Dec-03 Dec-04 Dec-05 Dec-06 Dec-07 Jun-08

<3.0x 3.0x-3.99x 4.0x - 4.99x 5.0x - 5.99x 6.0x - 6.99x >7.0x

26 20 33 23 24 55 49 9 64 58

106 136 111

175 219

43

14 19

35 36 46

115 137

25 13 24

58 92 96

120

122

37

$0B

$100B

$200B

$300B

$400B

$500B

Dec-01 Dec-02 Dec-03 Dec-04 Dec-05 Dec-06 Dec-07 Jun-08

<1.5x 1.5x - 2.99x 3.0x - 3.99x >4.0x

Leverage Multiples Increased As Companies Levered Themselves With Tighter Interest Coverage

18 46 79

146 158

349

500

73 94 76

145

132 111

102

11

41

$0B

$100B

$200B

$300B

$400B

$500B

$600B

2001 2002 2003 2004 2005 2006 2007 3Q08

0% Sweep 50% Sweep 75% Sweep 100% Sweep

..But At The Same Time Relied On IPO Proceeds From Equity Markets To Pay Down Debt

Total Leverage Interest Coverage

Equity Issuance RecaptureExcess Cash Flow Sweeps

74 75

198 197 213 302

369

85 13 18

--37

8

125 --

--30 28

35 46 28

37 158

28

$0B

$100B

$200B

$300B

$400B

$500B

$600B

2001 2002 2003 2004 2005 2006 2007 3Q08

0% Sweep 50% Sweep 75% Sweep 100% Sweep

18Source: S&P LCD Comps

L+225bps

L+257bps

175

200

225

250

275

Jan-06 Apr-06 Jul-06 Oct-06 Jan-07 Apr-07 Jul-07 Oct-07 Jan-08 Apr-08 Jul-08 Oct-08

Covenant-Lite All Other First-Lien

Debt Innovations Like Cov-Lite & PIK Toggle LoansCompetition To Deploy Capital Led To Sponsors To Push The Envelope on Structure

Approximately $90billion of Covenant-Lite Loans Are Currently Outstanding

Covenant-Lite Term Loans Trade at a Discount To Comparable Credits

19

Par Volume of Covenant Loans Currently Outstanding

Average Nominal Spread (bps)

67.43

73.12

65

70

75

80

85

90

95

100

105

Jan-06 Apr-06 Jul-06 Oct-06 Jan-07 Apr-07 Jul-07 Oct-07 Jan-08 Apr-08 Jul-08 Oct-08

Covenant-Lite All Other First-Lien

Average Bid

32bps

570bps

92

--

$25bn

$50bn

$75bn

$100bn

De

c-0

4

De

c-0

5

Jan

-06

Feb

-06

Ma

r-0

6

Ap

r-0

6

Ma

y-0

6

Jun

-06

Jul-

06

Au

g-0

6

Sep

-06

Oct

-06

No

v-0

6

De

c-0

6

Jan

-07

Feb

-07

Ma

r-0

7

Ap

r-0

7

Ma

y-0

7

Jun

-07

Jul-

07

Au

g-0

7

Sep

-07

Oct

-07

No

v-0

7

De

c-0

7

Jan

-08

Feb

-08

Ma

r-0

8

Ap

r-0

8

Ma

y-0

8

Jun

-08

Jul-

08

Au

g-0

8

Sep

-08

Oct

-08

Source: S&P LCD Comps & Markit.

164

0bps

50bps

100bps

150bps

200bps

250bps

Why Do Cove-Lites/PIK-Toggles Trade At A Discount?Lenders Dislike Lack of Visibility, Cannot Capture Waiver/Amendment Fees or Adjust Terms

• Lack of covenants are adverse to debt value because they complicate the principal-agent problem and

delay identifying potential issues to lenders

1. Delay extracting value from the borrower as consent fees because of technical amendments

2. Prevent renegotiating the terms of the debt structure to adjusted for the revised risk profile

3. Since secured loan covenants tend to be breached first, prevents the lenders from intervening and helping the

management correct course

4. Borrower may decide to stay the course and cause value leakage from the collateral until a point of no-return

5. Lack of visibility of when default will hit, adds to lender apprehension as lenders cannot manage their risk and exit

position before the borrower is in a serious default

Approximately $100billion of Covenant-Lite Loans Are Currently Outstanding

Covenant-Lite Loans Preclude The Lender From Capturing Amendment & Covenant Relief Fees

Average Covenant Relief Amendment Fee (bps)

20

Average Covenant Relief Spread Increase (bps)

63

0bps

10bps20bps

30bps40bps

50bps60bps

70bps80bps

Source: S&P LCD Comps & Markit.

Lastly, Ratings Were Issued In A Bull MarketLoans Are “Notched Up” Based On Historical Recovery Rates

• LBOs were structured to a single B corporate rating and a BB loan rating

• Ratings considered should be corporate ratings rather than facility ratings

– Due to the recent trend of highly levered LBOs, debt service and access to liquidity will be important

• Loan ratings incorporate the positive effects of the security and liens on recovery value in case of bankruptcy

• Borrower default is tightly correlated to corporate ratings

1 518

43

92

134117

56

32

165

2 2 013

61

$0B

$50B

$100B

$150B

BBB+BBB BBB- BB+ BB BB- B+ B B- CCC+CCC CCC- CC C D NR

All BB Loans Are Not Born Equal Loan Or Facility Based Ratings Are Higher…

Loan/Facility Ratings & Spreads ..But Corporate Ratings Will Also Be Important

21

Loan Ratings Could Overestimate Recovery Value Loan / Facility Based Ratings

Corporate Credit RatingsAverage Secondary Spread Based On Loan Ratings

Note: Includes loans that are priced and those that are not priced. Vast majority are institutional tranches.Secondary Spread calculations assume discount from par is amortized evenly over a three-year life.

1 3 10

31

69

157

116103

17

3 115

70

$0B

$50B

$100B

$150B

$200B

BBB BBB- BB+ BB BB- B+ B B- CCC+ CCC CC D NR

80%20%

50%50%

1,0881,265

1,4561,728

2,6533,176

L+200bps

L+700bps

L+1,200bps

L+1,700bps

L+2,200bps

L+2,700bps

L+3,200bps

BB+ BB BB- B+ B B-

Corporate Issuers vs. LBOs

22

• As the large Mega-LBOs were being structured,

large corporate opportunistic refinancings

peaked in 2007

• These transactions structured similar to LBO

transactions, but had lower leverage and higher

coverage ratios

• The current environment allows for investing in

a select pool of corporate loans that are direct

competitors of the companies that were LBOed,

but have much more flexibility from a capital

structure standpoint

$130 billion of Volume in 2007 Commentary

Large Corporate Issuances Peaked In 2007The LBO Boom Also Allowed Corporate Issuers To Avail The Same Loose Covenants

$,Bn of Corporate Transactions that Were Opportunistic Refinancings

Average of $780mm Per Transaction in 2007

#Corporate Transactions that Were Opportunistic Refinancings

23

13

38

7665

55

131

0$0B

$20B

$40B

$60B

$80B

$100B

$120B

$140B

$160B

40

93

231 207

141 166

00

50

100

150

200

250

300

Source: S&P LCD Comps & Markit.

Corporate Vs. LBO Corporate Transactions Have Been 1.1x Turns Less Levered With 0.8x Increased Coverage

24

Total Debt/EBITDA Senior Secured Debt/EBITDA EBITDA/Cash Interest EBITDA - Capex/Cash Interest

LBO Corporate ∆ LBO Corporate ∆ LBO Corporate ∆ LBO Corporate ∆

1Q-3Q08 4.9x 3.7x 1.2x 4.2x 2.9x 1.3x 3.0x 4.4x (1.4x) 2.3x 3.0x (0.8x)

2007 6.2x 4.9x 1.3x 5.5x 4.4x 1.1x 2.1x 3.0x (0.8x) 1.6x 2.4x (0.8x)

2006 5.4x 4.4x 1.0x 4.6x 3.9x 0.7x 2.3x 3.1x (0.8x) 1.9x 2.4x (0.5x)

2005 5.3x 4.3x 1.0x 4.0x 3.6x 0.4x 2.7x 3.6x (0.9x) 2.1x 2.7x (0.6x)

2005-07 Avg. 5.6x 4.5x 1.1x 4.7x 3.9x 0.7x 2.4x 3.2x (0.8x) 1.9x 2.5x (0.6x)

2004 4.8x 4.3x 0.6x 3.3x 3.1x 0.2x 3.4x 4.0x (0.6x) 2.6x 2.8x (0.2x)

2003 4.6x 4.1x 0.6x 2.8x 2.7x 0.1x 3.1x 3.7x (0.6x) 2.5x 2.5x 0.0x

2002 4.0x 4.0x 0.0x 2.5x 2.7x (0.2x) 3.2x 3.6x (0.4x) 2.4x 2.4x (0.0x)

2001 4.1x 4.0x 0.0x 2.7x 2.6x 0.1x 2.7x 3.2x (0.5x) 2.0x 1.8x 0.2x

2000 4.2x 4.2x (0.0x) 3.2x 2.8x 0.4x 2.3x 3.0x (0.7x) 1.6x 1.8x (0.2x)

1999 4.7x 4.6x 0.1x 3.2x 3.2x (0.0x) 2.3x 2.9x (0.6x) 1.7x 1.5x 0.1x

1998 5.4x 5.0x 0.4x 3.2x 3.4x (0.1x) 2.1x 2.6x (0.5x) 1.2x 1.3x (0.1x)

1997 5.7x 5.4x 0.3x 4.0x 3.6x 0.5x 2.0x 2.3x (0.3x) 1.2x 1.2x 0.1x

Lenders Need To Be Careful About Hidden Traps Citadel Capitalized On Absence of Buyers

Dangerous Precedent or New Buyer Base?Citadel Broadcasting Redeems Loan At Below Than Par Value via a Modified Dutch Auction

Win-Win versus Giving Away Upside

Transaction Overview

$1.5Bn Covenant-Lite Term Loan

25

• Corporate borrowers who do not have onerous cash flow sweeps like LBO buyers have the ability to use the excess cash flow to request an amendment for a buy-back below par

• As the secondary market gets weaker and liquidity is drying up, a greater number of lenders could be tempted

• This is a dangerous precedent because it not only changes the dynamics of the leveraged loan institutional structure, but also creates incentive for the borrower to be opportunistic about redeeming debt below par

• Loans generally have no provision for the borrower or any of the affiliates of the borrower to redeem the loan at less than par value via a Dutch auction tender

• The concept of tendering for a debt instrument by the borrower below par is not new and is used extensively by issuers of unsecured and subordinated bonds when the bonds are trading below par

– This provides liquidity to existing debt holders who are willing to give up value in exchange for the ability to exit their respective positions

• Citadel Broadcasting sought an amendment that allowed the borrower to purchase its loans at a price below par as part of a modified Dutch auction

• Under terms of that amendment, the issuer had the ability to approach investors up to three times over 90 days to repurchase as much as $200 million of its TLA and TLB

– Citadel Broadcasting bought back just over $149 million of senior debt after completing an amendment in March that allowed the company to purchase up to $200 million of its loans at a price below par as part of a modified Dutch auction

– Citadel paid an average of just under 81 to repurchase paper whereas Citadel’s TLB was quoted at 45/47 recently

– Citadel’s lenders do not have an excess cash flow recapture provision, and the company’s covenants were flexible

– Lenders would not be entitled to the pay down and the issuer could easily dividend out its cash on hand

Purpose

Merger; Along with an RC and TLa, backs the merger of

the Citadel Broadcasting with Disney's ABC Radio

Holdings.

Industry Radio; Domestic mid-market radio franchise.

Deal Size $1535mm

Corporate Rating (at

close)B+/Ba3

Loan Rating (at close) B+/Ba3

TLB (Flex) $1535M/L+162.5 (-12.5 bps)

Institutional Break Price 100.25%

Demand & Supply Technical Factors

26

Demand & Supply Technical FactorsLack of Capital Has Severely Curtailed Demand For Leveraged Loans

• The four main pillars of loan market technicals

have crumbled over the past year, in the face of

the ongoing bear market

1. CLOs: Year to date, managers have priced $13.5

billion of new vehicles, down from $83 billion

during the same period last year

• Many TRS and market value CLOs because of

structure mandates, are hitting selling trigger

points as asset values fall further depressing

valuations

2. Prime Funds: Withdrawal of assets by retail

investors are bleeding the prime funds.

• Through September investors withdrew $6.4

billion, versus $1.8 billion of net inflows during

the first nine months of last year.

3. Repayments: Repayment rates have slowed to all-

time lows

• Repayments for the year to date totaled $43.9

billion, down 67% from the same period in

2007, when issuers repaid $133 billion.

4. Institutional fund raising: Year-to-date fundings

total $85 billion, down 70% from the same period

last year, versus an increase of $144 billion during

the same period in 2007

Demand Supply

Prices Will Continue to Have Downward Pressure Demand/Supply Mismatch

27

$420bn

• About $150 billion has been withdrawn from the institutional loan market and unless this amount is replenished, prices will not return to par

• The marginal seller of loans has been the mark-to-market account (market value CLOs, TRS line, hedge funds) that remain vulnerable to redemptions

Repayment Rates Have Slowed To a TrickleCompanies Are Conserving Cash To Ride The Downturn And Are Only Delaying Default

Repayment Rates Dropped from $160bn to about $60bn per year as of October, 2008

28

Monthly & Rolling12-month repayment amounts ($,billions)

$0B

$50B

$100B

$150B

$200B

$0B

$3B

$6B

$9B

$12B

$15B

$18B

$21B

$24B

$27B

$30B

Jan-01 May-01 Sep-01 Jan-02 May-02 Sep-02 Jan-03 May-03 Sep-03 Jan-04 May-04 Sep-04 Jan-05 May-05 Sep-05 Jan-06 May-06 Sep-06 Jan-07 May-07 Sep-07 Jan-08 May-08 Sep-08

Repayment amount Rolling-12mo

• Majority of the companies that raised debt capital especially via LBOs over the last few years, were over levered with fixed charges being a strong demand on cash flow

– Deleveraging is the key attribute that will keep the companies from default since growth in EBITDA will be difficult to achieve because of the global slowdown and rationalization of both GDP and sector growth projections

• Looser maintenance covenants and lower cash flow sweep requirements are allowing the companies to avoid triggering default

• A lack of ongoing repayments indicates that when “fate catches up” and performance erodes to a thin cushion to default

1. the deviations from projected operating plan will be significant and,

2. there will be a greater amount of claims on assets of lower value

Decrease In Repayments Highlights the Severity of Potential Underlying Issues

Companies need to deleverage to avoid default

Source: S&P LCD Comps & Markit.

2008 Has Been A Year Of Net Capital WithdrawalCLOs Were the Overwhelming Driver of Institutional Demand from 2005-2008

Estimated Cash Inflows into Institutional Accounts By Account Type

Institutional Net Cash Flows less Change in Outstandings

29

9.1 12.116.2

25.5

52.6

97.088.9

13.5

-0.5

1.0 0.2 2.1 0.7 2.6 2.8

-5.6-5.2 -5.7

0.19.0

4.2 5.5

-1.0-5.9-$20.0B

$0.0B

$20.0B

$40.0B

$60.0B

$80.0B

$100.0B

2001 2002 2003 2004 2005 2006 2007 YTD08

CLO Issuance CLO Pipeline Change Prime Funds

-$12B

-$10B

-$8B

-$6B

-$4B

-$2B

$0B

$2B

$4B

$6B

$8B

$10B

$12B

Jan-01 Jul-01 Jan-02 Jul-02 Jan-03 Jul-03 Jan-04 Jul-04 Jan-05 Jul-05 Jan-06 Jul-06 Jan-07 Jul-07 Jan-08 Jul-08

Source: S&P LCD Comps & Markit.

Spreads & Recovery by Sector

30

Discretionary Consumer + RE Exposure

Even though historical recovery

values are high for Gaming &

Lodging, recent real estate boom

could lower these values.

Secondary Spreads & Recovery Values On DefaultFood Products, Healthcare, Industrials, Chemicals, Utilities Will Be Defensive Sectors

BB & B Rated Loan Secondary Spreads

Recovery Values On Default

31

Significant risks in light of government

intervention

����

Source: S&P LCD Comps & Markit.

Weak Consumer

Spending

+

Low Collateral

Value

�

79.5

62.6 62.370.3

65.376.1

82.8

55.1 53.9

70.379.9

55.0

79.5

53.9

0

20

40

60

80

100

Foo

d P

rdts

He

alt

hca

re

Co

nta

ine

rs/G

lass

Uti

litie

s

Ind

ust

ria

ls

Leis

ure

Ch

em

ica

ls

Re

taile

rs

Ele

ctri

cal

Bro

ad

cast

ing

Ga

min

g &

Lo

dg

ing

Pu

blis

hin

g

Au

to

Ho

me

Bu

ildin

g

832 1016 945 1009 1077 1267

18731611 1762

1353

1963 2088 2260 2032290 130 367 314 440 650

89 380 273 859 444

731 642 893

1,122 1,146 1,312 1,323 1,5171,917 1,962 1,991 2,035 2,212

2,4072,819 2,902 2,925

--

L+750bps

L+1,500bps

L+2,250bps

L+3,000bps

Foo

d P

rdts

He

alt

hca

re

Co

nta

ine

rs/G

lass

Uti

litie

s

Ind

ust

ria

ls

Leis

ure

Ch

em

ica

ls

Re

taile

rs

Ele

ctri

cal

Bro

ad

cast

ing

Ga

min

g &

Lo

dg

ing

Pu

blis

hin

g

Au

to

Ho

me

Bu

ildin

g

B

32

• Criteria relevant to debt investors:

– Risk/return ratio measured by Sharpe Ratio

– Recovery values in even of downturn

– Liquidity provided by secondary market as

measured by the par amount outstanding

– Size of company within sector as measured by

the average size of loan

• The Sharpe Ratio and Standard Deviation were

calculated based on trading data over from January

2002 – YTD October

Sector Number Par (mm) Bid Avg. Size Stdev Sharpe Recovery

Clothing - Textiles 13 $3,000 76.7 $230 5.2% 80% 62.3

Nonferrous Metals - Minerals 13 4,300 75.5 330 4.8% 69% 59.0

Oil And Gas 50 22,550 77.0 450 3.1% 63%

Aerospace and Defense 30 9,600 76.1 320 3.0% 59%

Industrial Equipment 30 8,850 75.1 295 3.1% 55% 65.3

Chemicals And Plastics 52 27,050 70.1 520 4.6% 52% 82.8

Electronics - Electrical 41 17,750 68.1 435 5.5% 49% 53.9

Telecom 43 34,850 83.6 810 5.6% 46% 45.3

Food And Drug Retailers 11 5,350 76.6 485 3.3% 35% 79.7

Utilities 54 40,100 77.6 745 5.8% 34% 70.3

Conglomerates 17 5,350 75.9 315 4.3% 34%

Financial Intermediaries 30 25,050 72.0 835 3.4% 32%

Business Equipment and Services 61 30,300 72.0 495 4.6% 32%

Industrials 196 93,500 68.7 475 4.3% 29% 70.3

Healthcare 97 55,450 78.6 570 3.5% 25% 62.6

Containers and Glass Products 21 9,100 76.0 435 3.9% 25% 62.3

Forest Products 14 11,950 81.3 855 4.2% 23%

Food Products 33 13,500 79.5 410 3.9% 20% 79.5

Leisure Goods-Activities -Movies 41 18,650 67.4 455 3.7% 19% 76.1

Surface Transport 18 6,450 63.7 360 5.0% 12% 62.6

Retailers (Not Food And Drug) 34 19,600 66.8 575 4.0% 12% 55.1

Lodging And Casinos 44 26,100 62.6 595 5.3% 11% 81.1

Home Furnishings 23 5,450 60.7 235 5.4% 11% 53.9

Cable and Satellite TV 24 23,200 75.2 965 5.9% 1% 85.3

Food Service 30 10,750 73.5 360 4.5% 0% 76.1

Automotive 53 38,350 61.1 725 6.1% (3%) 79.5

Building And Development 60 22,450 58.2 375 4.3% (5%) 53.9

Beverage & Tobacco 11 3,700 76.7 335 3.7% (7%) 76.1

Publishing 63 40,750 57.4 645 5.8% (7%) 55.0

Cosmetics - Toiletries 15 4,600 69.0 305 5.0% (10%)

Radio And Television 41 24,700 64.6 600 5.3% (10%) 85.3

Media 115 83,850 63.4 730 5.6% (20%)

Sub-Sectors Sorted By Sharpe RatioAttractive Sectors Are Highlighted In Grey

What Sectors Will Have Access To Liquidity?Asset Based Lending Is A Source of Capital That Can Be Raised During A Downturn

Lenders Look To Value of Specific, Easily Liquidated Collateral And Can Provide Liquidity

The Asset Based Lending Market is Used More By Some Industries Than Others

Asset Based Loans As a % of Total Leveraged Loan Volume

($ in millions)

5.0%3.3%

7.7%

5.1%6.2%

13.3%

8.6%9.7%

4.8%3.6%

7.2% 6.2%4.6% 4.1%

8.5%

11.3%

7.9%

17.7%

14.1%

0%

5%

10%

15%

20%

25%

1Q04 2Q04 3Q04 4Q04 1Q05 2Q05 3Q05 4Q05 1Q06 2Q06 3Q06 4Q06 1Q07 2Q07 3Q07 4Q07 1Q08 2Q08 YTD3Q08

465 476 500 590 610 700 790 1,216 1,294 1,676 1,961 2,1363,192

6,5907,632 7,883 8,416

11,655

0

2,500

5,000

7,500

10,000

12,500

15,000

33Source: S&P LCD Comps & Markit.

Analysis of Secondary Trading Data

34

Average Bid Based On Ratings Shows The Gap Widening, But Technical Reasons Have Dominated

Performance & Ratings Based PricingDefaults & Non-Performance Haven’t Hit Secondary Pricing of Loans

Average Bid Based On Performing Vs. Non-Performing(1) Loans

35

70

75

80

85

90

95

100

105

12/96 6/97 12/97 6/98 12/98 6/99 12/99 6/00 12/00 6/01 12/01 6/02 12/02 6/03 12/03 6/04 12/04 6/05 12/05 6/06 12/06 6/07 12/07 6/08

Performing Loans Index All Loans Index

65

70

75

80

85

90

95

100

105

12/96 6/97 12/97 6/98 12/98 6/99 12/99 6/00 12/00 6/01 12/01 6/02 12/02 6/03 12/03 6/04 12/04 6/05 12/05 6/06 12/06 6/07 12/07 6/08

Current BB Index Current B Index

Source S&P/LSTA Leveraged Loan Index and Merrill Lynch High-Yield Index (H0A0)

0.89

0.00

0.20

0.40

0.60

0.80

1.00

De

c-9

8

Jun

-99

De

c-9

9

Jun

-00

De

c-0

0

Jun

-01

De

c-0

1

Jun

-02

De

c-0

2

Jun

-03

De

c-0

3

Jun

-04

De

c-0

4

Jun

-05

De

c-0

5

Jun

-06

De

c-0

6

Jun

-07

De

c-0

7

Jun

-08

82.44

77.0075

80

85

90

95

100

105

De

c-9

8

Jun

-99

De

c-9

9

Jun

-00

De

c-0

0

Jun

-01

De

c-0

1

Jun

-02

De

c-0

2

Jun

-03

De

c-0

3

Jun

-04

De

c-0

4

Jun

-05

De

c-0

5

Jun

-06

De

c-0

6

Jun

-07

De

c-0

7

Jun

-08

Loans Bonds

Relative Value: Bonds Vs LoansFrom a Relative Value Perspective, Secured Loans Seem To Undervalued

Unsecured Bonds Traded Below Secured Loans In the Last Cycle…

…But This Cycle Has Seen Tight Correlated Moves That Imply Technical Selling Pressure

Weighted Average Bid Price For Leveraged Loans & High Yield Bonds

Correlation Between Price Movements of Leveraged Loans & High Yield Bonds

36Source S&P/LSTA Leveraged Loan Index and Merrill Lynch High-Yield Index (H0A0)

Relative Value: Bonds Vs LoansLeveraged Loans Are Yielding Spreads That Exceed Those Seen In The Last Cycle

L+790bps

L+1,111bps

L+150

L+350

L+550

L+750

L+950

L+1150

L+1350

L+1550

Jan-97 Jul-97 Jan-98 Jul-98 Jan-99 Jul-99 Jan-00 Jul-00 Jan-01 Jul-01 Jan-02 Jul-02 Jan-03 Jul-03 Jan-04 Jul-04 Jan-05 Jul-05 Jan-06 Jul-06 Jan-07 Jul-07 Jan-08 Jul-08

Loan Spread to Maturity Bond Swapped to Worst

Differential Between Unsecured & Secured Paper is ~320bps at Absolute Rates Well Above 10.00%

• The spread between secured loans and bonds accounts for:

– Security package, priority and liens

– Tighter maintenance covenants

– Ongoing compliance and reporting covenants

– Cash flow sweeps

– Recovery values on default or credit loss given default

• Historically, spreads between secured versus unsecured paper have been around 218bps

– A 320bps spread between secured vs. unsecured either implies much lower recovery values or under pricing of

unsecured bonds on a relative value basis

Source S&P/LSTA Leveraged Loan Index and Merrill Lynch High-Yield Index (H0A0) Note: Loan Spreads are spreads to 18-month call if average bid is par or higher, 2 years if average bid is 98 but less than par and 3 years if the average bid is less than 98 but greater than 92 and 4

years if the average bid is less than 92

320bps

37

Average Nominal Spread of the S&P/LSTA Index L+280bps

Historical Average Default Rate 3.0%

Historical Loss Given Default 30.0%

Average Credit Loss 90bps

Average Effective Spread 190

Historical Return from 1997-2008 4.11%

Spread to Maturity of the LSTA 1,166

Less: Effective Spread (190)

Risk Premium 976

Average Recovery Secured Loans 70%

Loss Rate 30%

Implied Default Rate = Risk Premium/Loss Rate 33%

3.27%

0%

1%

2%

3%

4%

5%

6%

7%

8%

9%

Dec-98 Dec-99 Dec-00 Dec-01 Dec-02 Dec-03 Dec-04 Dec-05 Dec-06 Dec-07

Recovery Rates

LSTA Spread 25% 50% 70% 90%

L+500 4% 6% 10% 31%

750 7% 11% 19% 56%

1,166 13% 20% 33% 98%

1,250 14% 21% 35% 106%

Current Default Rate is 3.27% Implied Default Rates

Higher Default Rates and Lower Recovery RatesThe Spread of 1,166bps on the LSTA Index Implies that Recovery Values Will Be Lower Than 70%

Recovery Rates of 50% Are More Likely

Lagging 12-months Default Rate by Number of Issuers

Lagging 12-months Default Rate by Number of Issuers

Implied Default Rates Vs. Recovery Rates (RR)

33%

20%

17%

3.3%

0%

5%

10%

15%

20%

25%

30%

35%

Oct-98 May-99 Dec-99 Jul-00 Feb-01 Sep-01 Apr-02 Nov-02 Jun-03 Jan-04 Aug-04 Mar-05 Oct-05 May-06 Dec-06 Jul-07 Feb-08 Sep-08

70%RR 50%RR 50%RR+125bps Actual Rate

Current Trading Levels Imply a 20% Default Rate Assuming a 50% Recovery Rate

39

Imputed Default Rate and Lagging 12-Month Default Rate

As the liquidity boom took off, several LBOs that were structured in early part of the cycle were good quality credit with well structured covenant and reasonable leverage – reflected in trading behavior in loans of that vintage

0% 3

%

2% 2%

2%

1%

0%

0%

0% 0%

20

%

-- 0 0

0

0

0

0

0

-- 0

0

0 0 0

0 0

0

0

-- 0 0

0

6%

4%

7% 1

1%

12

%

2%

0% 0%

0%

7%

24

%

91

%

67

%

64

% 66

%

61

%

20

%

9% 1

2%

24

%

91

%

7%

3%

24

%

21

%

13

%

18

%

76

%

90

%

87

%

75

%

1%

0%

0%

25%

50%

75%

100%

1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 10/31/2008

Less Than 60 60 - 69.9 70 - 79.9 80 - 89.9 90 - 99.9 100 or More

As With Fine Wine, Vintage Of Loans Matters2007 Vintage Loans Were Mostly Trading Below Par

40

Distribution of Secondary Loan Bid Price By Vintage Of Loan

The loans issued earlier than 2003 trade at a discount because probability of default increases with the age of the loan instrument

Several Mega-LBOs were structured in 2006 but never hit the

market until 2007

These were deals that were over-levered and pushed the

envelope with covenant-lite structures

Source: S&P LCD Comps.

DISCLAIMERThese discussion materials are presented solely for the purpose of demonstrating analytical and critical thinking abilities. Data used this in these materials was based on trial

subscriptions provided by Capital IQ, S&P LCD Comps, Bloomberg, Markit and other public data sources that need a fully paid subscription and are used in good faith. These

materials may not be reproduced without the written permission of the author.

41