High Hopes for LBOs Dimmed by Sell-Off

A long-awaited pipeline of European leveraged buyouts has finally emerged, but it has coincided with one of the most volatile periods of the year that could at worst derail deals completely, and at the very best make them tougher to finance, IFR reported.

(IFR) – A long-awaited pipeline of European leveraged buyouts has finally emerged, but it has coincided with one of the most volatile periods of the year that could at worst derail deals completely, and at the very best make them tougher to finance.

This week, private equity group Cinven agreed to buy industrial ceramics firm CeramTec, while BC Partners agreed to buy German publisher Springer Science, raising hope that LBOs are finally starting to pick up after a dismal first half.

The deals involve debt of around EUR1bn and EUR2.5bn respectively, but both have relatively high leverage of around seven times earnings.

In addition, Springer, the largest private equity acquisition in Germany for seven years, will be predominantly funded with covenant-lite loans that offer investors little protection.

That could make them harder to sell if market conditions remain as volatile as they have been in the past week.

“The financing is on the aggressive side,” said one investor.

“Both of these deals are fully leveraged structures, so we’ll have to see if and where markets settle in terms of how investors will view these deals. I’m sure, in cases like this where the financing has already been committed, that the bankers wish they had bigger flex.”

Deutsche Bank, Royal Bank of Canada and UBS have underwritten CeramTec, while six banks – Barclays, Credit Suisse, Goldman Sachs, JP Morgan, Nomura and UBS – have underwritten Springer.

The underwritten debt packages for both CeramTec and Springer have been finalised and cannot be altered.

Sponsors that need to negotiate debt packages in coming weeks, however, are likely to be offered less attractive terms from banks that will seek to protect themselves from market volatility.

The Crossover index has widened by 130bp in the past month to near 500bp, and many of the new issues that were sold in April and May have fallen in the secondary market.

Among potential LBOs timed for the summer are Finnish mobile phone firm DNA, and French funeral homes firm OGF. Private equity firms Apax
Partners and LBO France have also started exclusive talks to sell Maisons du Monde to Bain Capital, according to market sources.
Bankers say it is the cost of debt, and not liquidity, which is the main challenge now.

“The problem is not so much leverage. There’s still plenty of debt available but the price has increased, and that will impact caps on bonds when we’re underwriting financings,” said one senior leveraged finance banker.

“Most people working on projects realise that we’ve had a very strong six months, so I don’t think this repricing is going to change any strategic plans.”

That could change if the sharp moves seen on Thursday are repeated.

The sharp correction was sparked by Fed Chairman Ben Bernanke’s remarks about possibly ending quantitative easing. Up until then, market moves had been described by bankers as orderly, and some said there was evidence of buying.

“Thursday afternoon was an absolute disaster,” said one high yield syndicate banker.

By Friday afternoon, markets were calmer, but the Crossover was still trading in a 20-25bp intra-day range.

This bout of volatility is certainly not the first, or the most brutal of the year, but the setback is certainly not ideal for underwriters.

The fact that the high-yield market has remained open over the past month has given bankers a shot of confidence.

Just one deal has been pulled – for French laboratory group Unilabs – and other bonds have been comfortably subscribed after offering 100-125bp concessions to where they might have priced a few weeks ago.

Bankers also say that this sell-off is not reminiscent of that seen in the summer of 2011 when fears about a Greek default shut the primary market for six months and sent the Crossover spiralling to 850bp by mid-September from 400bp in June.

Banks that had already committed bridge-to-bond financing for LBOs including Polish telecom firm Polkomtel, French mechanical engineer Spie, Swedish cable company Com Hem, and Swedish alarms business Securitas Direct, were left on the hook with around EUR4bn of hung bridge loans as markets slammed shut.

Some bankers say this time around the market is more cautious, and that healthier loan market conditions should help.

“Banks can once again underwrite with some degree of conviction and greater certainty around the loan market,” said Thomas Egan, a high-yield syndicate banker at Barclays.

“Although the market will be smaller, there is fresh capital coming into the system through the new CLO pipeline and others raising cash”.