The next $10 bln LBO may be just around the corner

April 15, 2010

By Jeffrey Goldfarb and Richard Beales

The private equity industry looks poised to think bigger again. Buyout barons have spent almost three years twiddling their thumbs with pint-sized deals. The industry’s last 11-figure deal was Blackstone’s $27 billion purchase of Hilton in July 2007. And the acquisition of IMS Health in November is the only LBO to exceed $5 billion since the crisis hit. Yet there appears to be scope to double that in the not-so-distant future.

The money certainly has become available. In addition to dry powder held by the biggest private equity firms, banks are eager to lend again — even without demand from collateralized loan obligations to stoke the buyouts. Bubble accoutrements, including staple financing, covenant-lite loans and PIK toggle features, have re-emerged to make deals easier and more tempting for private equity firms. Interest rates also remain near historic lows and fixed-income investors have rediscovered an appetite for risk.

Debt multiples are also swiftly on the rise. After surpassing 10 times EBITDA for deals done in the heady days of 2006, banks beat a hasty retreat back to multiples around four. But bankers are again already offering more than six turns of leverage. In return, they’re requiring buyout firms to stump up 40 percent of an LBO price as equity, more than during the earlier exuberance.

Consider a hypothetical $10 billion deal using the new Breakingviews LBO calculator. A private equity firm could borrow about $6 billion for a company with $1 billion of annual EBITDA and well under $1 billion of existing debt. To write the accompanying $4 billion equity check, buyout firms could team up — in another replay from yesteryear — or bring in co-investors. Then, of course, the LBO price would have to deliver a premium to the target company’s market value.

It’s not hard to find a few plausible candidates. Online educator Apollo Group, engineering group Fluor, navigation technology maker Garmin, discount retailer Ross Stores  and hard drive manufacturer Western Digital are among the U.S. firms that fit the bill, at least on paper. The $10 billion buyout may not become a regular occurrence again anytime soon. But what was recently unthinkable now looks in the realm of the possible again.

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