Uncertain market for LBO financing

Until the September 11 terrorist attacks the buyout market had, in parts, been the salvation of the European M&A scene this year. For example, in the UK buyouts contributed to 55 per cent of M&A activity in Q3 2001. However, since September 11 the Centre for Management Buy-Out Research (CMBOR) notes that the number of buyouts announced has halved.

The American economy was in a soft downturn prior to September 11 so it’s no surprise that deals have halted as investors wait to see what effect the attacks, and the US response to them, will have on the American economy and what resulting effects might be felt by Europe’s economies.

Some sectors such as air transport and its related services and tourism are obvious casualties and investors there already face testing times. Equally obvious is that there is likely to be a shift to investing in defensive sectors, such as food and drink since regardless of the health of the economy people will still eat.

What is still only beginning to emerge is the impact on the debt markets, which due to the soft downturn in the US and parts of Europe notably there was concern about the German economy was already showing signs of tightening. Many European VCs in the LBO market reported a more stringent approach to credit approval from US investments banks reporting to US-based credit committees, where the economic downturn was confirmed, than from their counterparts with locally-based credit committees. Sabina de Jong at Gilde Investment Management, which on September 17 received SEC approval for its acquisition of Sapa AB’s Autoplastics division (see table below), says: “Mostly it is the American banks that are more cautious now.”

“My sense is that some deals over GBP200 million might find it tougher to get the banking completed in the short term, and even the medium term,” says Toby Boyle at Henderson Private Equity, which has just bought Leisure Link Group (see table below) from Bridgepoint Capital. That deal remains unchanged. Boyle continues: “In our market deals are less dependent on achieving returns through leverage and some banks will recognise that. Pricing will certainly tighten up now and subordinated debt, PIK and larger high yield bond offerings will be difficult to complete.”

Some deals are rumoured to be on hold, probably some are, but shutting up shop to new deals whether VC or bank suggests serious portfolio problems whether that be with investee companies or loan portfolios. One commentator notes banks, for example, tend only to close to new business when the distressed side of their portfolios goes above ten per cent. “If you take a parallel between 1991/2 when people got nervous to a similar or greater degree the banks who carried on doing business were able to capitalise on some great opportunities,” says Boyle.

In reality for the majority of VCs and banks life goes on, albeit far more cautiously. Already the investment by Schroder Ventures and Goldman Sachs Capital Partners in Cognis, the specialty chemicals manufacturer, which they are buying from Henkel for an estimated $2.3 billion including debt takes the current market uncertainty into account. The contract has a clause granting the investors the right to withdraw from their contract within two months of the September 12 announcement date. Whereas some deals are simply seeing their pricing revised downwards. Bridgepoint Capital did just that last month after the slump in stock prices following September 11. It had bid 52 pence a share for WT Foods in a public-to-private transaction in June this year which is now going ahead at 47 pence a share.