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Even in a grueling economy, deals still are getting done. It’s just a question of which debt-financing vehicle is used to do them.

This story first appeared in the April 6, 2009 issue of WWD. Subscribe Today.

The financial flavors of the moment appear to be warrants and convertible debentures. And the appetite among investors is for risk mitigation.

American Apparel Inc. last month signed off on an $80 million refinancing deal with London-based private equity firm Lion Capital Investment, allowing it to retire a troublesome $51 million credit facility with Michael Dell’s SOF Investments LP, which potentially could have forced it into bankruptcy. Lion’s notes carry an interest rate of 15 percent and mature at the end of 2013. Should Lion elect to exercise detachable warrants for 16 million new shares of American Apparel with a strike price of $2 a share, American Apparel would receive another $32 million in capital and Lion would hold an 18 percent stake in the rapidly expanding company.

After rebuffing a buyout offer from shareholders KarpReilly Capital Partners LP and H.I.G. Capital LLC, two private equity firms, Charlotte Russe Holding Inc. is another specialty chain in the hunt for new financing. Last month, facing a proxy battle over seats on its board from KarpReilly, the San Diego-based company put itself up for sale after receiving what it termed “preliminary expressions of interest” from both financial and strategic buyers.

The initial offer from KarpReilly and H.I.G., made in November, was for between $9 and $9.50 a share, valuing the company at $188.1 million to $198.6 million. Following receipt of the proposal on Nov. 11, shares spiked 18.3 percent to $8.15. On Friday, they were up 75 cents, or 8.5 percent, to $9.59, among the many specialty stores recently elevated by the recovery in retail stocks.

According to Wedbush Morgan Securities retail analyst Betty Chen, the women’s specialty retailer might still have had to solicit buyers even if it didn’t have to deal with objections from other shareholders to the board’s rejection of the KarpReilly bid.

She noted that with a new management team the company may have realized that it would be “difficult to turn around in this economy.” She expects it will probably take nine to 12 months to see any results.

Richard Kestenbaum, a partner at investment banking firm Triangle Capital LLC, said specialty retailers on average are selling for 3.5 times earnings before interest, taxes, depreciation and amortization, about 50 percent lower than two years ago. Naturally, distressed firms and those with weaker performance records will command lower multiples, he explained.

Companies looking for traditional deals involving access to the credit markets may have to be patient.

“Credit markets will improve, but they will not resemble what they were in 2006,” predicted Richard Hastings, consumer strategist at Global Hunter Securities LLC. “The cost of debt capital will remain high, but liquidity will improve. The corporate debt market remains relatively liquid, but the prognosis is for high cost of debt for quite some time.”

Hastings said there are signs that “money is moving from the sidelines to the center, some of it in private equity deals and a lot of debt deals. The public equity markets remain problematic to a degree.”

“The world has shifted and, for the more viable businesses with healthy balance sheets, there’s been a greater emphasis on asset-based financing,” said William Susman, president and chief operating officer at investment banking firm Financo Inc., which served as financial adviser to American Apparel in last month’s deal. “That market remains open. More and more investors, whether private equity, mezzanine or hedge fund [players], are looking for ways to put capital [to work at] companies in ways other than straight equities. Debt plus warrants and convertibles are the offers we see are becoming more and more common.”

According to Susman, many strategic players are “approaching the market cautiously. They don’t want to part with their cash.” For them, the fundamental question will be how much do they really want a particular asset, the banker concluded.

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