Thursday, August 16, 2007

Private equity funds stumble The last few weeks have been awfully calm in the mergers & acquisitions area, and it isn't just that all the dealmakers are off partying at the Hamptons or the Riviera. The credit crunch has spread from the subprime mortgage area to almost every other kind of loans, as banks and investors get more cautious about financing risky deals, especially those of private equity companies. As a Financil Times article ("Music over for buy-out buccaneers", 8/12/07) cites as an example the proposed buyout of Cadbury-Schweppes US beverage division that was caught up in a bididng war between equity giants KKR and Blakcstone. But the deal kept getting more and more expensive "Each time the buy-out funds checked in with Morgan Stanley, Cadbury's adviser, the bank ratcheted up the interest rate on the debt package, according to people close to the matter. For the private equity titans, this unusual behaviour was a confirmation of their worst fears: the world had fundamentally changed, and not in their favour." In the end, "Morgan Stanley, along with Cadbury's other advisers at UBS and Goldman Sachs, decided that the credit crisis made it impossible to price," As a result of the ever-tightening credit, Cadbury-Schweppes has decided to call off the auction for the time being. Indeed, other deals have fallen through in recent weeks, and the question is now whether these are isolated incidents or the beginning of a trend. This may be the start of some real trouble for the buyout companies. The problem is compounded by the rapid decline in the price of Blackstone's recently stock in part of its operations. The stock is down by 30% according to the FT story. Furthermore, since most equity company purchase are spun off in a few years to either other buyout firms, strategic investors, of through an IPO, the credit scare now will make all of those moves far more difficult, as major banks are less willing to back even mildly risky deals. As the FT article states "rather than finding new places to invest money, the biggest challenge for the buy-out industry in the changing environment will be managing portfolios of companies acquired during the boom." But finance is easy and business, in all its humdrum dealings, is hard. A prolonged slowdown will surely bring down the rate of return to equity investors, who will be more reluctant to put more money back into the funds. A downward spiral could be started. The private equity giants, who have ridden so high for so long, are looking more and more vulnerable. 9:29:41 PM

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