Brighter Buyout Prospects; MANAGEMENT BUYOUTS 15
Byline: Darren Hodson
In early 2009, prospects for leveraged management buy-outs looked bleak, with many banks closed for new business in the face of rapidly rising default rates. Industry commentators questioned whether the private equity leveraged model was broken as several buyouts "exploded" in spectacular fashion. But according to Darren Hodson, assistant director in the corporate finance team at Deloitte in Birmingham, the outlook is showing signs of improvement UK buyout activity has increased dramatically since the beginning of 2009, with the overall value of UK buyouts reaching more than pounds 5bn in the first quarter of 2010, compared to pounds 5.6bn for the whole of last year*.
This is partly as a result of the leveraged loan market recovering more rapidly than many had thought possible. In addition, the process of larger corporates reassessing long-term strategic direction is well advanced, increasing the pool of 'unloved' or non-core businesses that are available for management teams to acquire. Pressure from institutional investors (and often banks) is depressing corporates acquisition activity, with stakeholders encouraging companies to preserve cash and focus on core business rather than invest in acquisitions.
This suggests plenty of opportunity for management teams to acquire their businesses.
The statistics demonstrate that the management buy-out has re-emerged, albeit not in the same volumes as the peak of the market (spring 2008) and with investors having to adopt new innovative deal structures to take account of the ongoing liquidity challenges. For many private equity firms, necessity has become the mother of invention, as they seek to deploy capital raised or face returning it to investors, creating increased pressure to invest.
According to data provider Preqin, buyout firms have uninvested capital commitments worth EUR750bn of which EUR193bn is targeted at European investments.
The expectation over the next few years is that the value of transactions will be geared towards the mid-market, typically deals in the pounds 20m-pounds 200m range. A smaller proportion of larger pounds 200m plus deals will be completed as a result of limited liquidity (particularly debt).
Private Equity investors are likely to have to accommodate a lower growth business environment, more conservative deal structures and, potentially lower returns.
A key factor for all transactions will continue to be the availability of debt, with banks increasingly being more selective in the companies they lend to, focusing on: Private Equity houses that they have established relationships with and have completed multiple deals with; Companies that have demonstrated robust cash flow over a three to five-year period, hold market-leading positions and that have sustainable competitive advantages. Similarly, any debt provided will have to be repaid earlier and there will be fewer examples of bullet repayment profiles. The margins will also be much higher than in the past. A number of factors that are likely to keep leveraged loan pricing high and liquidity restricted in 2010 and beyond are: Default rates are expected to remain high, particularly certain sectors (consumer, construction and property); Liquidity will be restricted as banks face increasingly stringent regulatory demands to improve or maintain their capital bases; And there is a mountain of debt from historical transactions that needs to be refinanced, particularly in 2011 and 2012. …