Deal-makers Become Debt Arrangers

Late last month, Halyard Capital was finalizing a purchase agreement for a deal. A year ago, arranging financing for a deal like this would have been an afterthought. “Once you signed the commitment letter, [banks] took the syndication off your plate,” said Michael Furey, principal with the New York-based mid-market firm.

This time around, however, Halyard Capital found itself pushing a lot harder to get the deal to the finish line. It negotiated with six lenders before finally securing commitments from three to finance the deal. “We’ve really had to go out and arrange the financing,” Furey said of the deal that has yet to be formally announced. “It’s a lot of legwork.”

There’s been an enormous contraction in the pool of debt buyers for new issuances, particularly among collateralized loan obligations. The capital squeeze has left buyout pros to do much of the work formerly done by banks and debt underwriters to line up buyers willing to take pieces of senior loans. Lehman Brothers estimates there will be $30 billion to $35 billion in new CLO issuance in 2008—a 60 percent drop from 2007 levels.

Halyard Capital isn’t the only firm taking a more active role on the credit side of its deals. Buyout shops are going directly to debt investors to secure financing for deals as shell-shocked banks become increasingly hesitant to underwrite LBOs. And target companies that have seen headlines about buyouts falling apart want firm commitments before they agree to sell their companies, even to well-known buyout firms. Many lenders said buyout firms don’t have a choice but to take matters into their own hands and reach out to new and ocassionally unfamiliar sources of capital. “There’s a lot more people coming to us now,” said the managing partner at one mid-market lender that’s helped accommodate demand. “The bigger guys are reaching out to guys like us.”

The tightened credit markets have made it a necessity for bulge-bracket firms such as TPG and the Carlyle Group and mid-market firms such as Halyard, CCMP Capital Advisors and MidOcean Partners to go directly to pensions, insurance companies, hedge funds and other investors to piece together deals. The strategy of lining up a string of debt providers also makes banks more comfortable taking responsibility for the remaining piece of the senior loan, said Glenn Youngkin, managing director at the Carlyle Group, at a recent conference.

CCMP Capital Advisors plans to employ the strategy with its new $3.4 billion fund. The effort is meant to complement CCMP’s relationship with banks, not leave them out. And major banks also recognize the trend, though they don’t expect it to marginalize them from deal-making any time soon. “I don’t think it would make sense for a sponsor to recreate what the Street already does,” said a lending professional at a bulge-bracket bank. “I’m not worried that the Street is going to be totally disintermediated. But right now sponsors need to show the seller that there’s financing.”

Hellman & Friedman has become the standard bearer for sponsor-led financing, having assembled hedge funds Farallon Capital Management and GSO Capital Partners, along with Barclays Bank and GE Commercial Finance to back the acquisition of Goodman Global in October for $2.65 billion. The San Francisco-based buyout firm repeated the feat late last month, lining up Barclays, GE Commercial Finance and a division of RBS Group to back a $2.4 billion take-private of Getty Images. Those two deals are among the largest announced transactions since the credit crunch hit in July 2007.

Hedge funds have been marketing the do-it-yourself strategy for the last few years, but no one was really listening so long as banks were providing cheap financing, said the chief executive officer of a $1.8 billion LBO fund. “Now you say, ‘Hey, find that guy’s card,’” he said. Putting deals together today reminds this fund manager of deal-making in the 1980s, before lenders began offering one-stop financing. Mezzanine funds are also filling some of the void left by departed senior-loan buyers, he said.

Mid-market buyout professionals have long reached out to debt buyers, but they’re getting more aggressive in the current environment, said Ken Leonard, managing director and co-head of Dymas Capital Management, a mid-market lending shop and an affiliate of Cerberus Capital Management. “I do think they’re being aggressive about calling many [lenders] as opposed to one,” he said. He also said buyout shops are soliciting Dymas Capital directly to recruit it into clubs led by another debt provider. Before the credit crunch, he said, it was usually the awarded agent that contacted the prospective syndicate members.

Some buyout professionals see benefits to the situation. The strategy allows LBO shops to tell the deal story more comprehensively and get investors more directly involved, said a partner with a $1.3 billion fund. “You’ll still see major banks underwriting deals as markets firm up over time,” the partner said. “But it’s definitely a trend, out of necessity, because it’s efficient and effective for all parties.”