Buyers Line Up For Merrill Lynch’s Mid-Market Lending Business

General Electric Co., three other strategic bidders and several financial sponsors are in the running to buy the middle-market senior lending arm of Merrill Lynch & Co. by year-end, several sources familiar with the process told Buyouts.

The beleaguered New York investment bank began shopping Merrill Lynch Capital over the summer and recently winnowed the field of potential buyers down to a select few. Among LBO firms, TPG and J.C. Flowers & Co. are considered the most likely suitors; another potential buyout firm candidate, Cerberus Capital Management, is said to be showing waning interest, according to our sources.

A handful of financial institutions, including the Royal Bank of Scotland, HSBC and Société General, are considered to still be strong contenders.

Merrill Lynch Capital, which underwrites senior loans ranging up to about $200 million, could fetch as much as $1.5 billion, sources told Buyouts. Merrill Lynch put the unit on the block in response to huge write-downs in its fixed-income division. Indeed, the cash-hungry investment bank could likely get twice as much for Merrill Lynch Capital if it held on for another year, when the credit climate might be brighter, according to our sources.

“It would be a steal for GE,” one mid-market lending source told us. “This is the worst possible time to be selling it.”

Merrill Lynch isn’t expected to complete the deal until the bank’s board of directors has installed a new CEO to replace departed chief Stanley O’Neal. A Merrill Lynch spokesperson declined to comment, citing a policy of not responding to market rumors.

Should it win the auction, GE would be expected to combine the Merrill Lynch group with Chicago-based GE Antares Capital, which claims to be the number one provider of senior loans of $225 million or less. GE has used two recent acquisitions to become a major player in the senior loan market. In 2001, it spent $5.3 billion to buy Chicago-based Heller Financial and followed up in 2005 with the purchase of Antares, also based in Chicago, for an undisclosed sum.

A GE victory would do much to reverse the diaspora of Heller Financial pros who now fill the upper ranks of GE Antares and Merrill Lynch Corporate Finance. At the same time, there would likely be a clash between former senior Heller pros who ditched GE to start up a competitive shop at Merrill Lynch, sources told us.

GE did not immediately respond to a request for comment.

Merrill Lynch Capital provides senior loans to back buyouts through its commercial finance unit. It also provides equipment financing, health-care-focused lending and real estate financing. The commercial financing group is run out of Chicago by Daniel Marszalek, a managing director and former Heller Financial president who was recruited to launch Merrill Lynch’s operation in 2002 as a competitor to GE.

Financial sponsors have sought to invest in financial-services companies. J.C. Flowers, especially, has shown an appetite for the sector.

Merrill Lynch Commercial Finance, which employs 147 people, completed 148 transactions valued at more than $5.2 billion in 2005, according to an overview posted to the division’s Web site. Merrill Lynch Capital employs 500 people across its four divisions and one support group.

For cash-flow-based loans, Merrill Lynch Commercial Finance claims to be able to underwrite as much as $200 million in debt and hold up to $45 million on its books, according to its Web site. The group also underwrites and holds asset-backed loans, junior secured debt and mezzanine capital, and will co-invest alongside equity sponsors.