You know that a newly popular, LBO financing arrangement has gotten out of control when bankers themselves say it’s crazy. That is the case with equity bridge loans, an arrangement that gets investment banks to commit cash up front to a private equity deal. Why would banks agree to this? Because private equity firms are Wall Street fee machines, and banks are throwing themselves at their feet. Buyout firms don’t want to do deals with other buyout firms, so they’re telling the banks to share the equity check with them. We, the sponsors, will fork over $2 billion each, and you the banks put in another $1 billion into the equity check, okay? In this no-control, low return loan, the banks are taking huge risks. And they are doing it because they want to keep the buyout firms happy.
 
Are some banks saying ‘no’ to bridge loans? Sure they are. But they’re also saying ‘yes’ more and more to larger and larger deals. Bankers say this is a scary prospect. If they are unable to sell down the equity, they’re left holding the bag. How big is the bag? Well, some equity bridge loans last year required a few hundred million. But as Reuters reports, the Ontario Teachers-Providence Equity group pursuing BCE is asking bankers for a $4 billion bridge, or around $800 million per bank. It’s gotten to the point where Goldman Sachs has told it’s bankers to keep away from equity bridges, according to a source who works with the bank.
 
Assuming the banks are able to quickly sell down the equity, they get a measly point and a half for the bridge. But let’s say the LBO market tightens up in the next few months and they can’t. Imagine being stuck with $800 million, at 95 cents on the dollar after fees? It could be years before the company gets sold again, and even then it’s not guaranteed it will trade at a premium. 
 
The equity bridge loan phenomenon is a short term thing for sure. One bad deal and banks can point to that and tell the sponsors, “no way. I’m not having THAT happen to us.” Yet the simple fact that nothing has blown up is what fuels the trend. You’ve got to do the bridge if you want to stay in the lucrative private equity banking game, so the thinking goes. Business is so good, so why risk upsetting the sponsors?  
 
And so it goes until the private equity party stops. An LBO slowdown will hit the banks hard in the bottom line. But an over-exposure to equity bridges would make the impact worse should private equity waters come under any trouble. 

(Photo: Reuters file)