Looking Back

An overabundance of capital shooting deal multiples into orbit. Lenders clamoring to get into the market, and creating new debt vehicles with generous covenants and terms. Distressed specialists circling over the scene, waiting to swoop in when the carnage begins.

Sound familiar? The scene described above was assembled from a few of the top stories in Buyouts from February and March 1997. As Yogi Berra once said, “It’s like déjà vu all over again.”

Indeed, just as now, predictions of the buyout market’s demise were everywhere in 2007, and firms that invested in distressed companies and special situations were having no trouble raising capital. The 1997 market had an air of Rome before the fall. Unfortunately for turnaround investment firms, it would be another three years before the bottom really fell out.

A February 1997 edition of Buyouts chronicled the plight of these frustrated turnaround pros who had formed firms with the expectation of a swift collapse in the market. Financially distressed companies are “few and far between these days,” lamented Angus Littlejohn, who had left his buyout shop to start up a turnaround firm. Littlejohn added, however, that there were plenty of firms in need of an operational change, even if revenue generation wasn’t a problem.

The following month, Buyouts reported that “escalating multiples” and a “record amount of equity” had forced lenders to “pull out all the stops to join the chase for deals.” Debt merchants that year rolled out a new product called “air-ball loans,” second-term notes that allowed LBO shops to borrow against a company’s historic cash flow rather than collateral. Standard-issue now, in 1997 these five-year notes were a sign of lender generosity. They gave firms flexibility when chasing asset-light companies, such as financial services companies, which were new quarries at the time for an industry that once invested heavily on manufacturing.

Today, the new loan on the block is the “PIK toggle” security, which allows firms to defer interest payments if the market sours or if a portfolio company encounters a financial hiccup. In exchange, buyout firms agree to pay higher interest rates when the bonds mature. Like the air ball of 10 years before, PIK toggle securities illustrate a competitive lending market that showers borrowers with options and slack.