As private equity is one of the few corners of the financial world with money to spend,
These two sales are expected to be just the opening salvos in a mass leverage loan fire sale – RBS is also said to be looking to offload some of its LBO portfolio. Why is all this happening? For
Private equity’s interest is opportunistic. Standard & Poor’s recently said most leveraged loans are trading at around 90 cents in the dollar, with 13% of leveraged loans trading below 80 cents. It’s attractive to buy because acquirers can expect to make 20% plus returns from their investments, and the debt is secured.
James Stewart, partner at mid-market buyouts firm
Some of the debt being bought by the three Citi buyers includes loans from their own deals, like Harrah’s Entertainment, the largest ever private equity casino deal at US$28bn, backed by Apollo and TPG. Blackstone too has expressed an interest in buying its own debt. In August last year Thomson Reuters quoted Blackstone president and COO Hamilton James as saying: “For companies that we worked on and were overbid, we’re starting to look at those as being very attractive investments where, frankly, I think we may be able to buy the debt, and get a higher return than the underlying equity … We’re looking hard at that and that is pretty appealing to us.”
A recent survey revealed that a third of the world’s top 20 buyout firms are considering buying back debt in their portfolio companies. Some have already started doing so. French LBO house PAI is believed that have acquired part of the €325m second-lien tranche of Lafarge Roofing. Apax-owned TDC, the Danish telecoms group, has been spending hundreds of millions on the secondary market. The buying up of such debt could create un-leveraged returns that are equal to equity returns or, as in the case of TDC, substantially reduce the cost of financing.
Many of large private equity firms already have CLO/CDO funds to target this part of the market – Carlyle closed its 10th CLO in late April on US$450m, and Blackstone is raising a US$510m CLO called Riverside Park. But the trend is beginning to filter down, with reports suggesting Providence Equity Partners is looking to raise a US$1bn debt fund.
In times when traditional deal flow is low, it’s good business sense to exploit alternative opportunities. But there are concerns. As Stewart says: “To what extent is this a strategy shift? To what extent have LPs enabled large buyouts funds to consider alternative investment strategies in the light of the economic climate and the reduction in the number of investment opportunities?” If LPs wanted to invest in CDOs and CLOs, surely they would have gone to specialists in that field and not private equity houses.
What it does signify is an attempt to increase liquidity in a currently illiquid market. Whether the de-leveraging of private equity portfolios is a short-term reaction to a volatile market, or the beginning of a new market for the secondary trading of portfolio debt remains to be seen.