Bankers who finance leveraged buyouts are helping private equity firms tiptoe back to the credit markets. But they’re not buying into the recent euphoria.
Many of Wall Street’s biggest underwriters were forced to mark down the value of their loan portfolios as the pandemic sent stocks and other risk assets into a tailspin in March, leading to a nearly two-month freeze in dealmaking. As conditions improve, the lenders are building better protections into LBOs they sign up for, including those for Spanish phone provider Masmovil Ibercom SA and pet products company Radio Systems Corp.
Their newfound caution may seem at odds with the ebullient state of credit markets. Junk bonds have recouped nearly all of their losses this year, and more than $100 billion of the high-risk securites have been sold since the beginning of April. But for debt with the lowest ratings -- the jet fuel in private equity deals -- the rebound has been slower, keeping lenders on edge.
The leveraged loan market, long favored by private equity firms to fund LBOs, has also lagged. The largest buyers of the debt -- vehicles known as collateralized loan obligations -- are not purchasing as much as they used to as they deal with the wave of downgrades that has hit many of the companies they already hold.
New Vintage
Only a handful of new buyouts have been announced since the March meltdown, including the Masmovil deal and Clayton Dubilier & Rice’s acquisition of Radio Systems, which makes dog-training collars.
Terms on those deals, as well as others that are still being negotiated, paint a clear picture of banks’ wish lists for Covid LBOs: less leverage, more bonds and greater flexibility to sell the debt at steep discounts if needed.
The around 3 billion euros ($3.39 billion) of secured debt that banks agreed to provide to KKR & Co., Cinven and Providence Equity Partners for Masmovil consists mostly of high-yield bonds and allows banks more leeway than usual to adjust pricing and structure through syndication, according to people with knowledge of the matter who asked not to be named because the terms are confidential.
Barclays Plc, BNP Paribas SA and Morgan Stanley provided the initial debt commitments, though more banks are expected to be added to the group later, the people said.
CD&R had initially sought to finance its acquisition of Radio Systems with first- and second-lien loans and leverage of over six times a measure of earnings, according to a separate person. It later pivoted to an all-bond structure that puts leverage closer to five times, the same person said. A group of banks led by UBS Group AG ultimately agreed to provide financing for the deal.
Representatives for Barclays, BNP Paribas, Cinven, KKR, Masmovil, Morgan Stanley, Providence and UBS declined to comment. CD&R and Radio Systems didn’t respond to requests for comment.