The persistent imbalance between the volume of cash coming into the leveraged loan market and the availability of new deals to absorb that cash continues to generate a healthy technical bid for assets. Starting with the fourth quarter of 2008, TLB/TLC/second-lien new issuance has lagged repayments out of the S&P European Leveraged Loan Index (ELLI) in 14 out of 16 quarters, and in the three months to the end of July institutional primary volume was 36% lower than the €5.9 billion of repayments.
This trend has supported a strong secondary bid, and has the potential to feed into a lively primary market during the autumn session.
Lively, that is, if deals actually come forward and make the most of the demand for assets. The auction pipeline is fairly patchy, and various prospects have fallen away recently. Although it’s perfectly normal for auctions to falter and fail, the roll call of busted auctions includes some large transactions that would have made a splash in the otherwise sparse market.
These pulled deals include the sale of Belgian mobile operator Base, which generated EBITDA of €273 million in 2011. The auction was under threat following reports that Telenet had backed away and vendor KPN was therefore less likely to make its sale target. On Wednesday, KPN confirmed that it has pulled the sale, as bids were not high enough.
Last month, the long-discussed sale of a 50% stake in Italy-based pharmaceuticals group Rottapharm-Madaus to two sponsors was pulled, with the CEO citing differences of opinion over governance issues. Previously, Permira’s auction of frozen-food business Birds Eye Iglo was pulled in late June as bids fell short of the vendor’s target.
Also in question are Allianz’s sale of Selecta – which is deemed unlikely to go ahead as the sponsor is understood to be unhappy with the bids – and the sale of Schenck by IK Investment Partners. Unfunded bids for the latter business went in on Aug. 6, but were disappointing, sources said.
There are rumours circulating the market of sponsor interest in M&S, and a buyout of the iconic U.K. retailer would certainly make an enormous splash. But few seem to be taking this prospect seriously – after all, it would entail a jumbo sterling deal for a U.K. retailer with a large pension deficit and a recent spell of poor trading. Even with the attractions of the brand, the market capitalisation of more than £5.6 billion would require several sponsors to work together, and finding the debt financing could be a huge struggle as the combination of size and sector would put it well outside most banks’ comfort zone.
The key difficulty in pepping up the pipeline continues to be getting buyers’ and sellers’ expectations to meet up, and on this front there has been relatively little development this year, as vendors tend to be unhurried and are willing to wait to try to achieve a better return. “There is still a wide gap, unless the seller is incentivised or forced,” says a banker, adding that there are few prospects arising from corporates actively trying to sell divisions.
Purchase prices by country, sector
With this patchy M&A picture in the background, average purchase price multiples (PPMs) on buyouts in the leveraged loan market have started to creep up. The LTM reading for Europe as a whole stood at 9.19x through the end of July, up from 8.86x in full-year 2011.
Germany-based transactions have seen a stronger-than-average increase, rising by more than a turn to 9.19x, versus 8.07x. Given the thin deal flow in the last 12 months this reading could simply be caused by one or two outliers, but it does chime with the status of the German economy as the strongest in the eurozone, making it realistic for sponsors to bid most aggressively for companies based there.
In terms of PPMs by sector, defensives naturally attract higher multiples, at 9.48x LTM, up a touch from 9.24x in 2011. But the bidding for cyclical-sector credits has seen a more pronounced increase in the average PPM, to 8.85x LTM, from 7.68x in 2011.
Again, these readings are vulnerable to being swung by a small number of credits, since the dealflow has been so scant recently. However, a pick-up in the appetite for cyclicals could be symptomatic of improving confidence in the outlook for these credits, if buyers believe the macro picture has crept a few steps closer to recovery – or at least a few steps away from disaster.
In the cases of both the cyclicals and defensive sector cohorts, average equity contributions have risen from roughly 45% to just under 49% between the 2011 and LTM readings.
Cutting the data by country again, an increase of roughly this magnitude is seen in most countries, but with some variations. Equity contributions are slightly higher than average in France, for example, rising to 56.2% LTM, from 51.46% in 2011 – unsurprising considering the market’s experience of painful restructurings over the past three years.
It is also notable that in Germany, the average equity contribution has actually fallen, albeit only slightly, from 49.6% in 2011, to 46.9% LTM, bucking the trend seen across the rest of the market. These figures support the argument – suggested by Germany’s higher PPMs – that more aggressive deal structuring is possible for German companies.
The picture in terms of financing multiples has been fairly steady. Total leverage multiples on all leveraged deals have increased from 4.39x in 2011 to 4.47x in the first seven months of 2012, while multiples on LBOs have increased from 4.49x to 4.6x.
Putting aside the nuances of country and sector, some sources argue that higher PPMs are simply a product of desperation among sponsors for new deals in a slow but highly competitive market. “Most sponsors get similar debt packages, so they can only differentiate themselves by the amount of equity,” says an arranger.
However, even if sponsors are eager to spend their spare cash there will be a natural ceiling on PPMs, since most buyouts generate returns for the sponsor from growth in the underlying business. Under the current economic conditions, it is hard to see much growth in the next few years, which will make sponsors wary of paying up too aggressively, sources say. – Ruth McGavin