Oak Hill’s Duane Reade Exit A Success, Not a Home Run

Oak Hill Capital Partners today agreed to sell New York-based drug store chain Duane Reade to Walgreen Co. for nearly $1.1 billion.

Oak Hill earned just over 1.5x its money on the deal, according to a source familiar with the situation. Return-wise, it’s not a home run. But considering the company’s struggle with debt and drug store industry consolidation (e.g., Rite Aid/Eckerd, CVS/Long’s), it can be viewed as a solid double.

Analysts called the price fair—it represents an 11.4x adjusted EBITDA multiple, which is only slightly higher than the 10.3x trailing EBITDA that CVS paid for Longs in 2008.

Here’s how to arrive at the 1.5x return multiple:

Oak Hill acquired Duane Reade in 2004 for $700 million. The deal included $245 million in equity, a $160 million “B” loan, $150 million from a $250 million revolver loan and $195 million in senior sub loans. The company’s debt-to-EBITDA ratio was 8.7x.

The equity check came from Oak Hill’s first fund, a $1.6 billion vehicle raised back in 1999. Additionally, Oak Hill plunked down $39.4 million when Duane Reade acquired eight Gristedes stores.

Duane Reade was not growing when acquired, but it’s EBITDA grew each year under Oak Hill’s stewardship. The private equity firm brought in new management, redesigned stores, retooled merchandizing, created a new customer loyalty program and rebranded stores to focus on the company’s New York concentration.

Even so, Duane Reade’s debt load was too much to handle in a recession, and the company was a stalwart on S&P’s “Weakest Links” list. In July 2009, Oak Hill took Duane Reade through a refinancing, investing an additional $125 million (from its first and third funds) and raising $300 million in new leveraged financing, using the proceeds to pay down debt.

So Oak Hill’s total equity investment is around $409 million. The exit, which will be financed with cash from Walgreens’ balance sheet, represents an 11.4x adjusted EBITDA multiple, which is only slightly higher than the 10.3x trailing EBITDA that CVS paid for Longs in 2008.

Walgreens will pay $618 million in cash, as the rest of the purchase price is assumed debt, making the cash on cash return 1.51x. Goldman Sachs advised the sell side on the deal, which was a result of one-on-one discussions between the companies, and not an auction.

Oak Hill provided the following statement on the transaction:

The transaction underscores the success that Oak Hill Capital has had in driving Duane Reade’s recent operational and strategic turnaround in partnership with John Lederer and his management team. These combined efforts have restored Duane Reade to profitability and its position as a great New York franchise.