Special Report, The M&A Cycle: Feeding frenzy
Leveraged buyout deals (LBOs) have made a comeback in Europe this year with the €3.8bn take-out of Switzerland’s packaging giant SIG Combibloc being the most recent example. However, as the battle for Portugal Telecom’s assets demonstrates, trade buyers have become formidable competitors. This is not only the case at the mega level but also several rungs below in the small to mid-cap space.
According to Preqin’s Buyout Deals Analyst research, at the end of October 2014 Europe had racked up 815 private equity-backed buyout deals valued at €47.1bn. Those at the larger end of the spectrum have been a prominent feature, comprising around 56% of the total number of deals, and 80%, or €37.6bn, of total deal value.
What the figures don’t reveal are the battles. In Portugal Telecom’s case, Apax Partners and Bain Capital turned the heat up in November with their rival offer of €7.1bn for the Portuguese assets being sold by Oi, the Brazilian telecoms group. Their aim was to trump the €7bn bid from Altice, the European cable group controlled by Franco-Israeli billionaire telecoms entrepreneur Patrick Drahi. The jury is still out but he already owns two small cable companies in Portugal, and he also won a fight earlier in 2014 for Vivendi’s mobile-phone unit SFR.
Drahi is not alone in his pursuit of deals.
This year has also seen US tycoon John Malone’s Liberty Global acquire Dutch cable company Ziggo for €4.9bn and Germany’s Reimann family’s JAB Holding Co inject around $10bn of leveraged finance to combine the coffee businesses of Dutch group Douwe Egberts and Switzerland-based Mondelez International.
The rising value of leveraged acquisition loans taken out by these entrepreneurs as well as corporates demonstrates the seriousness of their intent. According to the latest figures from S&P Capital IQ, the total rose to €7bn in the first five months of 2014 alone, which was higher than the €5.6bn figure for buyout firms. This marked the first time that buyout firms have fallen behind other purchasers since 2001. The trend is different in the US, where these players have been a dominant force, consistently borrowing more annually than their private equity peers since 2000, with the exception of 2007.
Other contenders, ironically, include the clients of private equity funds. For example, Singaporean sovereign wealth fund GIC recently derailed RAC’s plans to go public. Its $3.2bn (€2.6bn) offer for half of the shares proved too tempting and trumped approaches from industry doyens like Apax, Blackstone, Charterhouse, Cinven and CVC. This move not only reflected GIC’s desire to beat them but also to avoid fees.
Last, but certainly not least, are the strategic trade buyers who have been an active, albeit more discerning, participant. Their armouries are brimming over and they been particularly interested in scouring the ranks of small to middle firms for opportunities.
“There is a lot of activity in Europe below the €500m mark,” says Tobias Schneider, partner at the law firm, CMS Germany. “We typically do not hear about the deals until they are completed but there is huge competition from trade buyers who have a lot of cash on their balance sheets. This has led to high prices and valuations.”
Prices cooled, though, as fears over anaemic growth have taken the heat off European stock markets. According to private equity firm Argos Soditic’s latest mid-market index, valuation multiples of medium-sized unquoted companies in the euro-zone experienced a dip from 8.6 times to 8 times EBITDA in Q3 2014. This is due to trade buyers exerting caution, reversing a trend seen in the first half of 2014 when they were more than willing to dig deeper into their pockets than their private equity counterparts. During Q3, strategic buyers were only willing to shell out 7.9 times earnings, compared with the 8.4 times paid by private equity.
However, the bountiful availability of equity and cash means many dealmakers are still willing to pay a premium for the right deal. The challenge is unearthing the perfect deal.
“At the moment, the volume of deals we are seeing indicates a confidence in the market,” says Ian Bagshaw, private equity partner at law firm White & Case. “There is a wide spectrum of people looking to buy which has led to too much capital chasing too few deals. I don’t see a sectoral trend but there are a huge number of sell-offs in the markets across geographies and products.”
For example, it is estimated that building materials groups Lafarge and Holcim will unleash around €4bn and €7bn of non-core assets in order to clinch regulatory approval for their proposed merger.
“I think this will only increase once corporate M&A picks up,” says Chris Hymans, head of UK private equity at Deloitte. “It will produce a positive effect and we shall see a lot more reshuffling of corporate portfolios and disposals.”
The types of transactions that may not be so prevalent are the small to mid-sized public-to-private deals. “These deals will continue to remain important but they will only constitute a small percentage of the overall deal flow,” as Robert Ohrenstein, global head of private equity at KPMG, puts it. “One of the biggest challenges in doing public to privates is that the interests of the management team, shareholders and non-executive directors have to be more aligned.”
Not surprisingly this is no easy task as some management teams do not want to seem like failures by having to take the company private while others may prefer restructuring the business away from the exchange limelight.
“The value of these types of deals is that there is an opportunity to unlock hidden value outside of the public eye,” says Ohrenstein. “Also, many want to take a longer-term view of the business and not be tied to the quarterly earnings scrutiny.”
Neil Harper, CIO for the private equity group at Morgan Stanley Alternative Investment Partners also believes some companies want to escape the short-term treadmill.
“There is typically more opportunity to generate alpha from the transformation of a small company,” he says. “One of the problems with a larger buyout is that companies are more difficult to transform, competition makes deals expensive, and everyone in the typical generalist buyout GP will have similar skill sets which can make it harder to create alpha through differential operational and strategic change.”