North Castle Recaps Leiner –

After a seven-year holding period, and some bankruptcy-related indigestion, North Castle Partners worked out a recapitalization plan for its Leiner Health Products vitamin and over the counter durg portfolio company. The Greenwich, Conn.-based firm teamed with Golden Gate Capital for the transaction, which valued Leiner at around $650 million.

North Castle originally invested in Leiner in a 1997 buyout. Through this latest recap, the firm’s first fund, North Castle Fund I, realized a return of roughly 3x its invested capital and an IRR of 17% during the seven year holding period.

Even as the investment proved successful, the returns did not come without some headaches, as North Castle had to endure a stay in bankruptcy protection for Leiner. “We had to go through an extraordinarily difficult period in 2001, and in 2002 we took the company through a prepackaged bankruptcy,” North Castle Managing Director Peter Shabecoff said.

When North Castle first bought Leiner, the company was putting up revenue of $400 million with $60 million in EBITDA. However, soon after the purchase, in 2000, the U.S. Justice department broke up what at the time was described as one of the largest price-fixing cartels in history. Raw material suppliers to vitamin makers, including Hoffman-La Roche Ltd., BASF AG and RhonePoulenc SA, were setting prices at a premium of as high as 25% above market levels. Joel Klein, who headed the Justice Department’s antitrust division, publicly depicted the vitamin cartel at the time as “the most pervasive and harmful criminal antitrust conspiracy ever uncovered.”

While the ruling should have helped companies like Leiner, the break up of the cartel actually had the opposite effect immediately following the verdict. “Leiner was sitting on $150 million worth of raw material inventory prior to the ruling,” Shabecoff said. “All of a sudden this supply was considerably overpriced, and that led to a significant hit on the company’s profitability.”

Indeed, in the year after the ruling, Leiner’s earnings plummeted from $60 million to $3 million. Despite the regression, though, North Castle maintained its commitment to the vitamin maker, injecting another $20 million of equity into the business, and implementing a restructuring plan that helped the company emerge from bankruptcy leaner and more efficient than it had been prior. “We consolidated from seven plants to three, reduced the under-performing SKUs and increased our focus on the better performing customers… We knew [the price-fixing scandal] was a short term problem, and we were able to implement the restructuring plan very quickly,” Shabecoff said.

Since emerging from bankruptcy protection, Leiner has been growing steadily. The company most recently reported revenue of $650 million, with EBITDA of around $90 million. Looking ahead, North Castle expects Leiner to continue to experience strong growth, which is one of the reasons the firm maintained a stake in the business through the recap.

“Going forward, the growth plan will be a little different,” Shabecoff said. “A lot of growth will still be driven by the vitamin market, and we believe that is still extremely attractive, but the company’s focus on over-the-counter drugs is really starting to take off.” He added that in the next couple of years, there will be a wave of prescription drugs whose patents are nearing expiration, and many of those drugs, Shabecoff believes, will make great candidates to be sold over the counter.

For the recap, both North Castle and Golden Gate will invest a total of $265 million of equity, split equally, according to Shabecoff. The debt package, valued at just under $400 million, will be led by UBS, with Credit Suisse First Boston and Morgan Stanley assisting, and will likely be comprised of a $240 million senior facility and $150 million of high-yield debt. Existing debt of around $10 million will be rolled over, as well.

North Castle, which is expected to start fund raising in the second half of the year, will invest out Fund III A, an annex to North Castle Capital Fund III, which is nearly tapped at this point. Golden Gate, meanwhile, is currently investing out of its $700 million, 2001-vintage Golden Gate Capital Fund I.

Snap Shot

Buyers: North Castle Partners and Golden Gate Capital

Target: Leiner Health Products

Purchase Price: $650M

Advisors: Leiner: Credit Suisse First Boston and Merrill Lynch

Legal Counsel: Leiner: Debevoise & Plimpton; Golden Gate: Kirkland & Ellis

Accountant: Leiner: Ernst & Young; Golden Gate: PricewaterhouseCoopers