Deal Multiples Hold Steady As Leverage Ratios Rise

Purchase price multiples slipped at the end of 2010 for buyout firms in the mid-market, but widened a bit for bigger deals, according to Standard & Poor’s Leveraged Commentary and Data. At the same time, leverage ratios improved for sponsors, thanks in part to a river of mezzanine capital.

Comparisons to the frothy peak of the deal market in 2006 and 2007 are exaggerated, said Robert Polenberg, a vice president at LCD. “We’re really more like 2004 and 2005, when [sponsors] were writing pretty serious checks. They have some skin in the game.”

For companies selling between $250 million to $499 million, the average purchase price multiple edged lower in the fourth quarter, to 8.2x trailing EBITDA, compared to 8.4x for 2010 as a whole, the LCD data show. For deals above $500 million, however, multiples widened slightly, to 9.2x in the fourth quarter, compared to 9.0x for the full year.

Equity checks shrank slightly in the fourth quarter, as the debt markets brightened. Dealmakers in the $500 million to $999 million market put up 41.2 percent of a target’s purchase price, on average, compared to 44.0 percent for all of 2010. Senior lenders put up 50.2 percent of the price for fourth quarter deals, up from 48.5 percent for the year as a whole, and mezzanine lenders took an 8.2 percent position in the capital stack, considerably more than the 5.5 percent role they played for the full year.

“I think you’ll continue to see more aggressive deals. Certainly we’re trending that way,” Polenberg said.

In another sign of the return of leverage to the market, buyout firms stepped up their use of dividend recapitalizations to rebalance the debt loads on portfolio companies and generate income for themselves and their investors.

By one measure, described by LCD as “sponsored dividend/stock repurchase loan volume,” 2010 was the biggest year ever for recaps, with $30.9 billion of volume, exceeding even the boom years of the last decade, when the previous peak was $25.5 billion in 2006, LCD said. Even so, the average leverage on recap deals, at 3.9x in the fourth quarter, remained steady throughout the year and was well below leverage levels of the boom years, which had peaked at 4.9x in 2007.

To be sure, there was a lot of pent-up demand in 2010, following two years of virtual drought in the recap market as a result of the credit crisis. But much of the activity may also have been triggered by the anticipated end of the Bush-era tax cuts, which had been scheduled to expire on Dec. 31 (but which were extended two years by 11th-hour Congressional action in December). Recap loan volume surged in November to $14.2 billion, LCD reported, well more than double the prior monthly peak, $6.2 billion in October.