Large leveraged buy-outs struck at the height of the credit boom face more distress after underperforming the wider market in terms of ratings, default rates and revenue growth, according to a report from Moody’s.
The rating agency struck a gloomy note in its analysis of 40 large buy-outs completed between 2006 and 2008, arguing that, even after a slew of restructurings, nearly a quarter of the groups remain at a high risk of further problems. Another three have already filed for bankruptcy.
“A number of companies have done a series of distressed exchanges and may do more,” said Lenny Ajzenman, senior vice-president at Moody’s. “We have questions about whether they will be able to refinance these large maturities.”
High-yield bonds for Clear Channel and Harrah’s Entertainment, now renamed Caesars, both of which have already restructured, are trading close to 70 cents on the dollar and slumped lower earlier in the year as debt markets seized amid the sovereign debt crisis in Europe. In the most recent quarter, TPG, which owns a big chunk of Caesars alongside Apollo, valued its equity at 60 cents on the dollar.
The senior bank debt of the largest LBO ever, that of Texas utility Energy Future Holdings, is trading at 60 cents on the dollar. But its owners, KKR and TPG, value the equity at 10 cents on the dollar. Generally, however, the equity in LBOs only has value when the debt trades at par.
The mediocre performance of large leveraged buy-outs is not the only legacy from the credit-fuelled bubble years between 2005 and 2008, when the sector raised nearly half of the $3.9tn in equity capital it accumulated since 1969.
Even the best-performing buy-out funds have so far only returned about 30 per cent of investors’ capital, according to estimates by Triago, which advises private equity groups on fundraising.
The vast majority of the remaining capital is locked in their portfolio companies or unspent.
The Moody’s report does not address the wide variation in performance among the largest private equity firms. For example, TPG’s flagship TPGV global fund is valued at 84 cents on the dollar, below cost and far worse than comparable funds at its main competitors Blackstone, Carlyle and KKR.
Aside from rare success stories – such as HCA, the US hospital operator taken private by KKR, Bain and Merrill Lynch for $31bn, which floated earlier this year or KKR’s Dollar General – private equity groups have struggled to exit large deals.
Only seven companies in the Moody’s group have managed an initial public offering, sometimes after paying dividends to their backers, while two more have distributed a pay-out to sponsors.
The 40 deals have suffered more downgrades than the wider corporate universe since being taken private, said Moody's. While they have also lagged behind the wider market in terms of median revenue growth, they have kept pace in terms of profit expansion – a sign that private equity’s laser-like focus on costs and efficiency may have borne fruit.
Private equity firms have, however, been a big part of refinancings in the past two years. For example, in 2009, borrowers were looking at $430bn in high-yield debt coming due, according to data from JPMorgan. But today that figure has been almost halved to $220bn.
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