Millennium Healths Bankruptcy Shows Dangers of Leveraged Loans

Nearly three years ago, James Slattery took the stage in San Diego and addressed the sales staff of Millennium Health LLC, the company he had founded and built into the nation's largest drug-testing lab.

With Mr. Slattery was Millennium's general counsel, who then presented a series of "execution slides" complete with photos of body bags to the 250 or so people in attendance. He told of how the company boasted of besting everyone-- competitors and employees--who had ever sued it, according to a sales rep who witnessed the presentation.

"Don't be a weasel," Millennium's general counsel told the audience, according to the sales rep. "I don't want to be on the other side of litigation from any of you. I hope you don't want to be on the other side of litigation with Millennium."

Now Millennium is in bankruptcy protection, felled by a number of whistleblower lawsuits filed by former employees and doctors who claim the company's growth was fueled by unnecessary tests and illegal kickbacks to physicians, as a Justice Department investigation concluded was the case.

Before last week's bankruptcy filing, Mr. Slattery and minority owner TA Associates struck a deal with most of their bondholders to turn over ownership of the company and pay $325 million to settle the federal probe. In return, the owners get to walk away from any potential lawsuits tied to claims related to the federal probe.

That plan is facing pushback in court, where at least one investor, Voya Investment Management Co., claims Millennium's owners are getting off too lightly. The bankruptcy settlement is just a fraction of the cash the two owners took out of the company in the past three years as dividends, Sharon Levine, lawyer for Voya, said last week in bankruptcy court.

Members of Millennium's lending group told The Wall Street Journal that the two owners took out more than $1.6 billion from the company, most of it in the past year.

"They were aware they were being vigorously investigated" but said nothing to lenders about the brewing trouble with the Justice Department, Ms. Levine said in court.

The drug-testing company's owners last year took a "special dividend" of about $1.3 billion, according to members of Millennium's lending group. That was on top of another $300 million dividend paid to the owners in 2012. Mr. Slattery, a former police officer with no medical background, and his family received about 55% of the dividends, the people said, while TA Associates, a Boston-based private-equity firm, took the rest.

TA Associates declined to comment. In court, Mr. Slattery's lawyer, Joshua Sussberg, said Millennium's owners don't believe there are viable legal claims against them. The exiting owners are making a "significant contribution" toward the company's future, he said.

For the institutional investors that bought into Millennium's $1.8 billion loan last year and then were forced to cut a deal with Mr. Slattery that shields him from litigation, the drug-tester's rapid fall into bankruptcy protection illustrates the dangers of investing in the opaque leveraged-loan market, where banks lend billions to highly indebted companies to fund corporate buyouts and debt restructurings. The banks that arrange the risky loans sell them to institutional investors looking for higher returns than safer investment-grade loans.

Leveraged loans don't generally carry the same type of detailed warnings that accompany securities investments. Instead, they're considered private transactions between borrowers and banks, which are assumed to be able to evaluate risks for themselves. That distinction is a key element if the loan sours and why investors who might have a reason to sue over the failure to disclose a government probe would consider a negotiated settlement with a leveraged loan borrower.

Indeed, most of Millennium's syndicated lenders--more than two dozen hedge funds and institutional investors, including Brigade Capital Management LP, Blackstone Group's GSO Capital and Oppenheimer Funds--have voted to accept Millennium's chapter 11 plan, opting to try to salvage their investments by taking a stake in the still-viable drug- testing business

The lenders will, subject to bankruptcy-court approval, swap their debt for 100% of the equity in the reorganized Millennium plus $600 million in new debt. Those investors will surrender any potential claims against TA Associates, Mr. Slattery and others. But they can pursue lawsuits against the bank and the lawyers that arranged the financing.

J.P. Morgan Chase & Co. arranged the $1.8 billion leveraged loan that funded the 2014 dividend. The bank sold the loan to dozens of sophisticated investors, mainly other banks, mutual funds and hedge funds. According to members within the lending group, J.P. Morgan didn't disclose the probe at the time it was marketing the 2104 Millennium loan to investors. According to these lenders, Millennium's lawyers at Skadden, Arps, Slate, Meagher & Flom said the probe wasn't material.

Millennium, Skadden and J.P. Morgan declined to comment.

"It's interesting in my eyes that [investors] didn't do their due diligence up front. Or maybe they did, and, you're looking at the No. 1 company in drug monitoring, maybe the lure of making money overshadowed what they found," said Edward Zicari, a former Millennium regional manager in Texas, who outlined his suspicions about the company's practices in a lawsuit before the 2014 financing.

Mr. Zicari's image was used for simulated target practice at the San Diego sales meeting, according to the suit. One of the body bags at the 2012 sales meeting was labeled with his name. His legal fight with the company over alleged defamation was resolved, on terms Mr. Zicari can't discuss.

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