It wasn’t long ago, probably only two years, when the mere mention of private equity names such as KKR, Texas Pacific or Bain would send shudders through the veins of even the toughest non-executive Chairman. Between 2005 and 2007, the private equity boom shook the corporate world, as well-dressed, quietly spoken, highly leveraged-businessman took over the largest companies in the United States, and threatened to do the same Down Under.
The global financial crisis and a long-awaited re-pricing of risk quelled the barbarians from storming many local fortresses, but in the United States in particular, the leveraged buy-out kings certainly made their mark — and not always for the better.
Dan Gross, speaking on Yahoo Finance stated that “nine of the 10 biggest leveraged buyouts were done between 2006-2007 … they bought into cyclical industries right at the peak and loaded a ton of debt on them, which is not a winning proposition.”
Yahoo Finance’s Tech Ticker noted that the recent bankruptcy filing of Chrysler would probably be among the largest losses faced by private equity investors. Private equity firm Cerberus acquired an 80% stake in Chrysler in May 2007 for US$7.4 billion. After Chrysler filed for chapter 11 bankruptcy last month, it is almost certain that equity holders in the car maker would be wiped out.
However, despite the negative prognosis, Cerberus Chief Operating Officer, Mark Neporent, remained positive, telling media that the firm was “optimistic that Chrysler’s Chapter 11 case will lead to the expeditious and efficient completion of the restructuring that has been agreed upon by the major stakeholders, and we will continue to do all that we can do to support a successful outcome”. Harvard Business School professor Josh Lerner was less hopeful, telling Forbes that Cerberus got “hit by a tsunami”.
The acquisition of radio station owner and outdoor advertiser, Clear Channel Communications could be even more costly for its purchasers, Bain Capital and Thomas H Lee Partners. The acquisition cost US$18 billion (plus another US$5 billion in debt) and was certainly not well timed. Last month the company announced a 23% drop in revenue and 47% fall in cash flow. Last week, Clear Channel confirmed it was sacking a further 590 workers (after dismissing 1,850 in January).
While the deal has been a disaster for investors, the private equity managers have not fared too badly. The New York Times reports that while “Bain and Thomas H. Lee put up $450 million each for the deal. Their investors put up an additional $2.1 billion. Each firm [then received] an annual management fee of about $6.7 million, and each earned about $43 million in so-called transaction fees for their roles as bankers in the deal. They passed on two-thirds of those fees to their investors.”
One of the least successful private equity deals was the acquisition of Tribune Co (publisher of the Chicago Tribune and Los Angeles Times) by Sam Zell. Zell had earlier sold his Equity Office Properties Trust to private equity group Blackstone for US$39 billion of which, Zell is believed to have pocketed around US$900 million (the Blackstone acquisition of Equity Office was another abhorrent private equity deal, with the value of the properties acquired well below their purchase price).
Zell used US$315 million of his proceeds and more than US$12 billion in leverage to acquire Tribune. In December 2008, Tribune filed for chapter 11 bankruptcy, unable to service its US$12 billion debt, with the company’s cash flow not able to cover the annual US$1 billion interest payments. In one of the larger understatements of recent times, Zell last week dubbed his purchase of Tribune “a mistake”. Fortunately for Zell, most of the money lost was that of his gullible lenders, with his wealth still estimated at several billion dollars.
One of the world largest private equity firms, TPG (formerly Texas Pacific Group) invested US$1.3 billion (as part of a larger US$7 billion bail-out in April 2008) in flailing bank, Washington Mutual. That investment was lost after the bank was effectively seized by Federal Deposit Insurance Co and assets sold to JP Morgan.
In Australia, the private equity boom generated more media activity than actual deal flow. KKR’s offer for Coles Myer was rebuffed by the board (which turned out badly for shareholders, especially those who have continued to hold Wesfarmers scrip), while offers for Flight Centre and Orica were similarly unsuccessful. Of the deals which were completed, CVC’s investment in PBL Media and KKR’s acquisition of part of Channel Seven have been dismal failures. Meanwhile the jury remains out on the success of the investments by Archer in retails assets such as Rebel and A-Mart and TPG in iconic department store, Myer.