Debt feast helps buyout firms through IPO gloom
The author is a Reuters Breakingviews columnist. The opinions expressed are his own.
By Neil Unmack
LONDON, Oct 7 (Reuters Breakingviews) -Private equity groups like KKR KKR.N and Blackstone BX.N might soon get a helping hand from credit markets. With initial public offerings looking tricky, some buyout barons are instead using debt to get some cash out of their portfolio companies. It’s a controversial practice, but one that looks set to continue.
This year has seen a resurgence in so-called dividend recapitalisations, or when a private company issues debt to pay its owners. UK-based windshield repair group Belron is borrowing almost $9 billion through syndicated loans and bonds, and said that nearly $5 billion would go straight to its shareholders, including Belgian family-owned investor D’Ieteren and buyout firm Clayton, Dubilier & Rice. According to PitchBook LCD data, three of the largest private equity-backed dividend recap loans on record have happened since March, with September volumes in the U.S. hitting a record $17 billion.
Dividend recaps have a mixed reputation. They often surge amid excessive credit-market exuberance, and can also contain a dose of moral hazard, since the practice allows buyout groups to take chips off the table without giving up control. Duff deals include ill-fated UK retailer Phones 4u, which went bust the year after a dividend recap. Patrick Drahi’s Sotheby’s has struggled to cut debt and its dividend bond, issued in 2021, has been downgraded.
Yet, so far, the recent boom seems more sedate. Take Belron: its debt after the recapitalisation will be around 6 times EBITDA, and its enterprise value of 29 billion euros, as estimated by Jefferies, implies creditors have a near 70% equity cushion sitting beneath them. Nor are the usual market warning signals flashing: on average, debt issued in leveraged buyouts is currently around 5 times EBITDA, according to PitchBook LCD, which is less than in recent boom years like 2021.
Credit investors may also have little choice but to participate. A sluggish period for new buyouts means that many funds and vehicles like collateralised loan obligations are hungry to invest. And as rates fall, some of the $6 trillion stuck in U.S. money market funds is likely to find its way into corporate debt. That should keep borrowing costs, and company failures, low. Moody’s expects less than 3% of the junk-rated companies it tracks to default in the coming year.
That’s an opportunity for private equity firms. They are under pressure to return money to investors amid dicey markets. IPO volumes have fallen 23% this year, and are at the lowest level since 2009, per LSEG data. Dividend recaps offer a workaround, allowing buyout barons to return money to investors by gearing up their more creditworthy companies. And the debt looks cheap. For U.S high-yield bonds, the average spread is less than 3 percentage points over the risk-free rate, according to LSEG data, which is around 1 percentage point below the long-term average. For buyout barons, the party may only just be getting started.
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CONTEXT NEWS
Belron, a UK-based windshield repair group, issued some $9 billion of loans and bonds, of which about $4.7 billion will be used to fund a dividend to shareholders, according to company statements dated Oct. 2.
Belron is owned by listed family investment vehicle D’Ieteren, as well as private equity groups including Clayton, Dubilier & Rice and Hellman & Friedman.
Graphic: High-yield bond spreads are below historic levels https://reut.rs/47VkuS4
Editing by Liam Proud and Oliver Taslic
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