* Croatian food group's debt plummets
* Bond investors scrutinise accounting policies
* PIK loan threatens to impact bondholders
By Robert Smith
LONDON, Feb 10 (IFR) - A ballooning payment-in-kind loan is threatening to tip over Croatian retailer Agrokor, as bond investors pore over the byzantine accounts of the country's largest private company.
The value of the PIK has plummeted as low as 25 cents as confidence in the company's ability to repay the instrument has evaporated.
One banker described the PIK as "a time-bomb".
The debt is held at the holding company level but nervousness around it is feeding through to Agrokor's senior bonds, with a €325m 9.125% 2020 note collapsing to an all-time low cash price bid of 75 on Wednesday.
Although primarily a food company, producing everything from sausages to ice cream, Agrokor also has interests in a vast array of businesses in construction, commodity trading, and travel and tourism.
Its debt woes stem from a recent acquisition of Slovenian retailer Mercator, which was funded with a €485m deeply subordinated PIK toggle loan in 2014.
PIK toggle notes allow companies to make interest payments with additional debt if they are short of cash, meaning the size of the debt can balloon if not tackled quickly.
The banker said Agrokor had "burnt a lot of bridges with banks" due to its indecisiveness in getting to grips with its capital structure.
"This has been taken round the park so many times," he said. "They've hesitated and hesitated on what they want to do. In the end it feels like they've missed the boat a couple of times and now they're starting to pay the price."
A second banker said the company's big missed opportunity came in early 2015, when it tried to pull off a refinancing not only of its nearly €1bn-equivalent of senior bonds, but also some holding company debt and loans at Mercator as well.
The deal never made it off the ground, however, and Agrokor announced in May 2015 that it had decided "not to pursue such a refinancing at this stage".
"What they should have done is refinanced one bond, pay up a little on a €300m deal, but get a foothold out there to chip away at their maturities over time," the second banker said.
"Instead they were advised they could do this big €3bn deal of basically all their debt in one fell swoop. A deal of that scale was never feasible for a sub-investment grade Eastern European corporate."
The collapse in Agrokor's bonds means they now yield more than 20% across the capital structure - a potentially eye-catching return for junk bond investors given the company has substantial assets and a long-standing business model.
But several investors told IFR they were hesitant to get involved due to reservations around Agrokor's accounting policies, particularly the way it accounts for financial assets and investments at subsidiaries in its cashflow statement.
One investor pointed to an example from Agrokor's most recent annual report, covering the full year 2015, where the company disclosed that it had written up the value of intangible assets at a subsidiary in Bosnia and Herzegovina. He said that while most companies typically record a write-up under profit and loss, Agrokor booked it through its cashflow statement.
"It's perfectly legal to do this, but it's misleading," the investor said. "It means cashflow looks better, but actually it's not real cash - their cash position doesn't move. I think a lot of people have missed what they're actually doing from a cashflow perspective."
For bond investors, cashflow is a more important metric for servicing debt than profitability.
Agrokor did not respond to a request for comment on its accounting policies, nor on its financing plans.
Agrokor began as a flower-growing operation in a single greenhouse in Yugoslavia in the 1970s. It flourished after the fall of Communism, absorbing other businesses before registering as the Agrokor Group in 1995 - the year Croatia's war of independence ended.
When it acquired Mercator in 2014 the Slovenian company was in financial distress and had to cut a restructuring deal of its €1.1bn debt pile to facilitate the sale.
Covenants on Agrokor's bonds meant it had to class the newly acquired business as an unrestricted subsidiary, so this debt would sit outside the so-called "restricted group" of its bonds. The €485m PIK note was also raised outside the restricted group, meaning it should not impact senior bondholders.
But at the end of 2016, Agrokor raised new loans that require the company to refinance the PIK 90 days prior to its mid-2018 maturity, suddenly creating a new potential credit-linkage between the PIK and the senior bonds.
Agrokor has three senior bonds outstanding - a €300m bond due in 2019, and two notes that mature in 2020, one for €325m and the other US$300m.
Moody's described the clause as "tantamount to a cross acceleration provision" in January, leading it to include the PIK in its debt calculation for the first time and cut Agrokor's rating one notch to B3.
Research firm Covenant Review said in a recent report that more than €20m of debt being accelerated at Agrokor or its restricted subsidiaries would result in an event of default under its bonds.
"It's an over-convoluted structure," said the first banker.
"I really hope this doesn't become a case study of poor financial management." (Reporting by Robert Smith, editing by Sudip Roy and Julian Baker)