(Bloomberg News) Carlyle Group LP, in a transaction nine months before it filed to go public, saddled itself with debt to pay owners including William Conway, Daniel D'Aniello and David Rubenstein a $398.5 million tax-deferred dividend.
The private equity firm borrowed $500 million from Abu Dhabi's Mubadala Development Co. in December 2010, saying it would use part of that to expand investment products. Instead, it paid out almost 80 percent of the money to existing owners, according to regulatory filings. Separately, the Washington- based firm negotiated bank credit giving it the option to distribute an additional $400 million prior to its initial public offering, lending agreements filed last month show.
The deals, which echo the dividend recapitalization private equity managers use to extract cash from the companies they acquire, leave Carlyle's future shareholders with the cost of servicing the debt. Assuming Carlyle holds its IPO by the end of June, Mubadala will have earned a return in excess of 50 percent, including a $200 million equity stake the owners gave away to obtain a loan that lasted about a year and a half.
"It begs the question, 'Why would you do that?' " said Matthew Pieniazek, the president of Darling Consulting Group, an adviser to banks in Newburyport, Massachusetts. "IPOs are not guaranteed. They were willing to give up some of the upside for the certainty of" a distribution.
Chris Ullman, a spokesman for Carlyle, declined to comment.
By financing the dividends with debt, Carlyle's founders can receive the full amount without facing an immediate tax bill, and without having to sell shares in the IPO. Under Internal Revenue Code regulations for partnerships, the owners can defer paying taxes on the distribution until the debt is retired, said Allan Weiner, a partner in the Washington office of the law firm Kelley Drye & Warren LLP.
"They are essentially creating a distribution without paying taxes," Weiner said. "Presumably, because it is debt, they are burdening the existing entity."
Carlyle has taken advantage of borrowed money in the past to pay its fund investors dividends before taking holdings public. So-called dividend recaps were used when Dunkin' Brands Group Inc. borrowed $1.25 billion in 2010 to pay $500 million to owners Carlyle, Bain Capital LLC and Thomas H. Lee Partners LP. Dunkin' went public last year in a $486 million share sale.
Six months after the buyout of Hertz Corp. in 2005, the car rental company used a $1 billion loan to pay a dividend to its new owners, Carlyle and Clayton Dubilier & Rice LLC.
Carlyle, founded in 1987, is the second-biggest private equity firm, with $148 billion in assets as of Sept. 30, including stakes in companies such as Dunkin' Brands and Nielsen Holdings N.V. Its three founders received a combined $413 million last year, mostly from distributions. Apart from the founders and Mubadala, its owners include the California Public Employees' Retirement System, or Calpers.