Paper Profits On Largest LBO Go Poof

At least one major investor has taken the value of the largest LBO target ever back down to earth.

KKR Private Equity, the publicly traded affiliate of Kolhberg Kravis Roberts & Co., had written up the value of its investment in Energy Future Holdings Corp., formerly called TXU Corp., from $200 million to $332.8 million for the quarter ended June 30. But in its third quarter report, KKR Private Equity has knocked it back down to $200 million. Energy Future Holdings was taken private in October 2007 in the largest leveraged buyout in history, a $45 billion deal led by KKR, Texas Pacific Group and Goldman Sachs.

It’s just one example of several steep writedowns in the fiscal third-quarter results from KKR Private Equity, which trades on Euronext Amsterdam. As of Sept. 30, 2008, more than 90 percent of KKR Private Equity’s portfolio was comprised of limited partnership interests in six KKR private equity funds, co-investments with KKR in 13 companies, and negotiated equity investments, according to a regulatory filing. “We are redoubling our already extensive efforts to improve the operations of our companies in anticipation of a weaker economic environment,” said KKR Co-Founder George Roberts in a statement.

Altogether, the net asset value, or NAV, of KKR Private Equity’s investment portfolio, a key measurement of performance, fell to $3.86 billion for the three months ended Sept. 30, down 15 percent from $4.56 billion for the equivalent period ended June 30. On a per share basis, KKR Private Equity’s net asset value has tumbled every quarter since peaking at the close of the second quarter of 2007 with an NAV of $26.12 per share. As of the close of the third quarter, the affiliate’s net asset value on a per-share basis fell to $18.85, an all-time low. The latest quarter reflects net unrealized depreciation on investments and foreign currency transactions totaling $649 million on a sequential basis.

Aside from Energy Future Holdings, the biggest writedowns in the unrealized fair value of KKR Private Equity’s holdings included a net decrease of $95.4 million in the value of its investment in Netherlands-based chip maker NXP B.V.; and a complete writeoff of $81.2 million in the value of its holdings in Canadian aircraft maintenance services provider ACTS. KKR Private Equity also sliced the value of a convertible senior note investment in Sun Microsystems, a publicly-traded maker of networking software and hardware products, by $62.9 million. The markdowns put the fair value of these holdings at $125 million for NXP B.V., and $511 million for Sun Microsystems, as of Sept. 30. KKR Private Equity left the value of its holdings on certain other co-investments intact, including HCA Inc. ($300 million), Biomet Inc. ($200 million) and U.S. Foodservice ($100 million).

It’s been a rough road for investors in KKR Private Equity. From a peak cumulative annualized rate of return of 10.2 percent at the close of the second quarter of 2007, the affiliate’s return on investment has consistently dropped on a quarterly basis. As of Sept. 30, 2008, the fund reported a cumulative annualized rate of return of negative 7.7 percent.

That performance, as well as expectations for further weakness in the global markets in the fourth quarter, along with the struggles of other public private equity firms, most prominently The Blackstone Group and Fortress Investment Group, seems to have given KKR pause about its move to the Big Board. Those plans, originally announced in late July, are on hold, with 2009 presented as the new timeframe. The disclosure of the delay was terse and no specific reason was cited. The listing was to be affected by the end of the fourth quarter through a merger of KKR and KKR Private Equity.

The situation once again raises the question of whether going public can be more trouble that it’s worth for a private equity firm. The results thus far have not been a positive for the few firms that have made the move. Since going public in June 2007, Blackstone has been trading at sharp discounts to its IPO price. At of press time, Blackstone shares were trading at below $8 each, a drop of roughly 75 percent from its $31.00 per share initial offering price. The company disclosed its third-quarter results on Nov. 6, posting a widening loss and warning that its dividend to common shareholders for the fourth quarter could drop or disappear unless general market conditions improve significantly .

Elsewhere, Fortress Investment Group, which went public in February 2007, was trading below $4 per share, nearly 80 percent below its IPO share price of $18.50. The company’s fortunes since the listing have been such that Wesley Edens, its chief executive officer, recently joked about launching a hostile takeover of his own company if the stock falls below $1, according to published reports.