Private equity firms have always preferred leveraged buyouts as the main method of acquiring a new company. The past couple of years have seen the private equity market going through a rough phase and activity almost drying up. The last time a major buyout was announced was that of Hilton by Blackstone in July 2007. Ever since the financial downturn, the only major buyout has been that of IMS Health.
Banks have not been ready to give huge debts due to which private equity firms had to slow down on LBOs. But this trend might change soon as many big leveraged buyout deals are in the pipeline.
In a leveraged buyout, large debts are used to acquire stake in a company by using the assets of the target company as security for the debt. Such deals are often used to facilitate a hostile takeover of a company. The good news for the private equity industry is that banks are willing to make this kind of lending again. Sweeter deals are being offered, with lower interest rates, lesser restrictions, and prearranged financing packages.
Banks are already giving out an increasing number of high-risk and high-return loans for buyouts and mergers. From the record low in December 2008, debts have increased by almost 70%. The S&P/LSTA US Leveraged Loan 100 Index has risen by almost 100% since 2008 end, reaching its highest level in last two years. LBO financing has increased by as much as 15 times this year and private equity firms are currently scouting total loans worth another $500 billion. The market for LBO financing appears to be in a major uptrend right now.
The situation for private equity firms is definitely changing for the better. Just a year back, they would have found it difficult to get financiers for LBO transactions unless they put up about 50% of equity in the target firm. But the same banks are now looking to compensate for their last few years’ losses through these high-return loans. They appear to have developed an appetite for risk once again as economy continues to recover.
With funding available for mergers and acquisitions, large investment banks like Goldman Sachs and JP Morgan Chase are also going to benefit. These banks make money by advising private equity firms and other institutional investors on such deals, and heightened activity in this area is great news for them.