New York, April 5 (RLPC) – Banks appear to have thrown wide open the door for private equity deal making. They are charging gentler fees for leveraged loans, one of the prime ingredients in crafting the buyout brew. But digging a bit deeper suggests that a still lingering reluctance of bankers to risk their firms’ balance sheets is hampering an active resurgence of leveraged buyouts (LBO).
True, the cost of capital is but one component. But it is an important one, and private equity shops, boasting $371.8 billion of dry powder in their buyout funds alone, according to Preqin, should be hungry to deploy this capital by buying, tweaking and then selling companies for a profit. Quickly too. Triago estimates that more than half of today’s buyout dry powder needs to be utilized within 21 months lest it be forfeited.
With debt prices consistent with prior periods of spirited LBO activity (though no one forecasting a return to the pre-financial crisis boom), market volatility calmed and equity valuations increased enough to make sellers willing, if not eager, that there ought to be more buyout barons pulling the trigger on deals, said market watchers. But the reality has not matched expectations.
That’s because, to date, there is still a dearth of fully underwritten financings, where a bank or a coterie of banks step up to commit their balance sheet to get deals done. In other words, if the financing fails to draw enough investors to clear the market, the bank is on the hook to provide the debt.
“Many of the new issue deals we have seen in the first quarter are being done on a best-efforts basis,” said Trey Parker, co-head of research at Highland Capital Management.
The bevy of refinancing, dividend payout, and amend and extend deals that have littered the leveraged loan landscape this year have been pulled off with no underwriting risk to loan providers. This year’s big splash, Lawson Software’s new $3.1 billion term loan, was done on a best-effort basis.
Even when banks are willing to provide fully underwritten financings, they extract a heavy price. Lenders want to be paid for their risk with expansive flex language that will allow charging far higher interest rates or steep cuts to the original issue discount to make the loan more attractive should they have misread investor appetite or if the market turns against them, they way it did last August.