One of the raisons d’etre of private equity is to take control of targeted companies. This allows the purchaser to leverage up debt on the business’s balance sheet immediately and create incentives for the management team to perform by giving them attractive equity-linked packages. This enhances value for all shareholders but predominantly the majority owners through their geared investment. It is easier to implement if the targeted company is taken off the public markets.
If private equity is not able to take full control of its targets, for whatever reason, it cannot gear up the company in question. Neither can it guarantee that the management will perform in line with its explicit wishes nor cancel the business’s listing.
Despite these drawbacks, in recent weeks a number of deals have seen private equity companies take minority investments in public companies.
Such moves are not surprising. Financial investors continue to be hampered by a lack of debt available to fund their deals. Such adversity has given birth to more inventive strategies, one of which is to take minority stakes in potential targets.
Andrew Ware, head of corporate finance at BDO Stoy Hayward, says that many firms are considering such moves. “Deal shapes are changing,” he says.
Both Bradford & Bingley and Hiestand were opportunistic chances thrown up by the current turmoil rather than considered as stake-building. TPG’s investment came from the inability of the troubled mortgage lender to get its rights issue away at the intended price. The stake in Swiss bakery group Hiestand became available after activist investor Focus Capital was forced to sell. Lion snapped it up.
However, now these minority positions are established, the next move by the holders could well be to raise the necessary debt for a full takeover bid once the markets recover. A minority stake could prove a useful stepping stone in turbulent waters and lead to full control in the medium term. Many private equity firms, particularly in the UK, might try to relax the terms of their funds in order to allow them to take minority stakes in public companies over the coming months.