March 13 (The following statement was released by the rating agency)
High stock market valuations and an increasing corporate focus on strategic acquisitions are
enabling financial sponsors to exit longstanding investments from the 2006 and 2007 boom years,
while creating a barrier to new leveraged buyouts, Fitch Ratings says.
The preference for initial public offerings and strategic sales has led to a
material decline in the recycling of legacy leveraged credits through secondary
buyouts. This reduces the amount of collateral available for new collateralised
loan obligations as strategic investors refinance leveraged loans in the
investment grade debt market and IPO proceeds are used to pay down debt.
Combined with the end of legacy CLO reinvestment periods and the amortisation of
senior liability tranches this reduces net loan volumes. We believe sponsors
will remain sellers and leveraged credit assets will remain scarce unless
sponsor return requirements decline with the rest of the leveraged credit
complex, or purchase price enterprise values fall.
Only the buyouts of Springer and Ista last year represent recent successful
recycling of large, widely held legacy LBOs. Meanwhile, building products group
Grohe was sold to Japan's Lixil, Vodafone purchased Kabel Deutschland and
Walgreens is likely to acquire the rest of Alliance Boots. As cost cutting
opportunities among Europe's investment-grade corporates diminish, M&A volumes
are likely to pick up as management seeks revenue growth and cost synergies to
protect profitability. This will further accelerate the trend.
Some non-LBO corporate acquisitions do contribute to leveraged credit volumes,
such as Liberty Global's acquisition of Dutch cable group Ziggo. Leveraged
credit investors welcome corporate acquisitions with less leverage and higher
equity contributions than financial sponsor leveraged buyouts, yet they are the
Recent reports support the trend away from financial sponsors competing for
assets as they come up for sale. Spanish cable group ONO continues to pursue an
IPO while Vodafone may revise its bid. Travelex is considering an IPO and French
food ingredients producer Diana has attracted interest from two strategic
bidders at knock out bids, including one from a Japanese corporate, which is
similar to the 2013 sales of Grohe and Ribena/Lucozade.
The trend is in stark contrast to 2006 and 2007, when credit markets provided
the pricing power for sponsors to out-bid equity markets.
Part of the reason may be due to greater caution by sponsors as they prefer to
be sellers rather than buyers this time around. But in addition, the size of
major multi-billion euro acquisitions required "club" deals among sponsors,
resulting in awkward governance and exit processes as different cultures and
fund parameters clashed. Moreover, the experience of concentration risk in
sponsor portfolios during the last cycle reduces limited partner enthusiasm for
large transactions. The failure of ISS's sponsors to exit via SBO in 2011, now
filing an IPO, and the current struggle by UK supermarket group Morrisons to
find a financial sponsor partner highlight the constraint of size and portfolio
More importantly, however, the lack of sponsor new issue may relate to the low
yield, low growth environment in Europe where sponsor return requirements limit
their ability to compete with strategic buyers and equity markets. Market
participants point to sizeable sponsor funds and cash balances as the basis for
recovering new issuance in 2014. They will undoubtedly play their part by
offering more leverage, looser covenants and tighter pricing, but a significant
recovery in LBOs will require lower return expectations, or lower valuations.