William E. Simon & Sons LLC has launched a new fund, Special Situations L.P., to buy distressed debt and high-yield IOUs, and make leveraged equity investments.

Former Bank of America executive Brendan Gallaher is the president, and joining him in Los Angeles are John Klinge, formerly of BofA, and Dale Leshaw, former high-yield research king at Beverly Hills-based Imperial Capital Group.

By investing into slightly scary situations, the fund is targeting a return just north of 20 percent, said Leshaw. "We will look at troubled senior secured bank debt and stressed high-yield bonds primarily," he said. "We will be weighted to the top-tier (most senior) of the capital structure."

In English, Leshaw means that if a company declares bankruptcy, Simon & Sons would be near the front of the line in claims on assets. The new fund is looking to raise between $150 million and $300 million, mostly from institutional investors, said Leshaw.

The summer plummet of high-yield debt values resulted in a perfect atmosphere for investing, Leshaw said last week. "But it always looks easy in retrospect. We would have been worried along with everybody else last summer. But that was the sort of time to draw down your cash positions and buy," he said. In general, the fund will not use leverage in buying bonds, and rarely on the equity side, said Leshaw.

Unlike some other recently established funds, the Simon & Sons fund is not hunting for values in the financial wreckage that is Asia. "We are sticking with U.S. and Canadian debt," said Leshaw.

The Simon fund joins many others in the Los Angeles area such as Howard Marks' Oaktree Capital Management L.P. in downtown Los Angeles, Ken Funsten's Famco in Marina del Rey and Larry Post's Advisory Group in West Los Angeles that are devoted to investing in high-yield debt, and which mark Los Angeles' role as a leader in the junk-bond arena.

"We are looking to make a few hires, and we think we will be able to find people here in Los Angeles," said Leshaw, referring to the large labor pool of junk-bond experts here.

Not bad for a REIT

Pasadena-based PS Business Parks Inc., a real estate investment trust that spun off years ago from Public Storage Inc., is a good buy on Wall Street, according to a report released by Craig Silver, analyst in the West Los Angeles offices of Sutro & Co. Inc.

REITs are generally out of favor now, so why the positive write-up? The AMEX-listed PS Business is well diversified in property type and geography, has little debt, can grow through self-financed acquisitions, and is well-positioned in office-warehouse parks, a type of property becoming more popular with American businesses, wrote Silvers. Of PS Business' 3,500 tenants, none accounts for more than 5 percent of revenues.

In today's climate, most REITs cannot tap capital markets to fund growth, said Silvers. But PS Business, with $90.3 million in revenues (calendar 1998), has good cash flow from operations, and so can continue to buy more office-warehouse parks on its own.

Additionally, the company is well managed. "These guys came out of Public Storage, and they know what they are doing," Silvers said last week. "They have been in the business a long time, and are good at it."

The chairman and CEO of PS Business is Ronald Havner, former chief financial officer at Public Storage Inc. in Pasadena, the giant rental storage outfit. PS Business rode out the 1990s recession well, managing to increase revenues even if net operating income fell a bit, said Silvers. "Other than another recession, I don't see anything that can stop (PS Business) now."

Trial balloons

The Russell 2000, an index of those small to medium-sized companies just below the 1,000 largest stocks, is down about 25 percent from its high last year.

Of course, that's an average, with many smaller companies especially high-flying biotech or high-tech companies having been whacked worse than that if they reported just a quarter or two of disappointing earnings.

Now emerges a problem proxy season is coming, and many public companies are considering "resetting" share prices on employee stock options for chief executives, key research scientists and others. Otherwise, key personnel could jump ship because their current stock options are virtually worthless. That is, an executive might have an option at $15 a share set a few years back, but the stock now trades at $4. That might not be worth those 18-hour days anymore.

But just resetting options isn't always a piece of cake. Some shareholder organizations, such as Bethesda, Md.-based Institutional Shareholder Services, are on record as generally opposing the practice of resetting. So more companies are turning to the services of John Kelly, senior vice president at proxy solicitation firm and advisor MacKenzie Partners Inc. in Century City.

First, Kelly advises companies to float a trial balloon past some of the largest shareholders and get a feel for what sort of reset will be acceptable.

Additionally, Kelly keeps records of how large shareholders have voted in other reset proxy votes so he can advise clients on the right tack to take with those shareholders. "We also assist them on their presentation to the ISS," said Kelly.

Though generally successful, convincing shareholders to vote reset is getting tougher. "Last year, nearly 14 percent of votes cast in proxy votes were against raising the reset," said Kelly. "It was only 5 percent a few years ago."

Quick takes

Talking about the Russell 2000, one forecast projects that it will hit 447 by July, up 11.7 percent from today, according to the "Financial Forecast Center" Web site (http://forecast.org) from Alabama-based Applied Reasoning Inc. Many dozens of economic variables are fed into a computer, which is allowed to detect its own historical patterns.

Who has been the best IPO underwriter in the country since the start of 1997? According to the Calabasas-based IPO Monitor, New York-based Deutsche Morgan Grenfell had 11 IPOs between Jan. 1, 1997 and Feb. 26, 1999, of which seven stocks are trading above their issue price. The average gain (including the four down stocks) was 365.5 percent. Skewing the stats: Amazon.com, up 3,459 percent. The worst underwriter? New York-based Bear Stearns & Co., with 14 IPOs in the period. Twelve were down, for an average decrease of 39.9 percent. The upshot? Don't put the word "bear" into the name of a brokerage firm.

Contributing Reporter Benjamin Mark Cole writes about the local investment community for the Los Angeles Business Journal. He can be reached at sevencontinents@mindspring.com.

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