First credit, now recession worries hit LBOs
By Jonathan Keehner and Michael Flaherty
NEW YORK (Reuters) - A slew of private equity deals already under financing pressure from the credit crunch now face added concerns over a potential recession.
The primary worry warts trying to renegotiate the deals have been banks wanting new financing terms to help them unload the more than $330 billion of leveraged buyout debt they're currently stuck with.
But now private equity firms may be having second thoughts of their own about the deals as the specter of an economic downturn brings the possibility of lower cash flows or losses.
U.S. employers cut payrolls in August for the first time in four years, according to jobs data released on Friday -- sparking talk of a potential recession.
This comes at a tough time for private equity firms, which are already trying to work around the credit crunch that hit the buyout market this summer.
"I've got to believe that if you have a signed agreement, you're pretty nervous right now," said Ian Snow, CEO of SPG Partners, a $660 million private equity fund.
Snow said he hasn't seen conclusive evidence that the economy is heading for a recession, but added that "private equity investors are treading lightly around areas related to financial services and segments related to housing."
Friday's jobs report heightens the prospect of private equity firms renegotiating terms on certain deals, as seen in Home Depot Inc's (HD.N) recent supply division sale, and underscores the possibility of banks and firms exiting deals through breakup fees.
Until now, private equity firms were seen as holding reluctant banks to the terms on which they had agreed. But if the economy spirals into a recession, it'll likely be the private equity firms seeking the exit doors.
RECESSION CONCESSIONS
A sudden economic downturn could even cause Kohlberg Kravis Roberts & Co. to relent with its bankers on the $26 billion leveraged buyout of payment processor First Data Corp FDC.N. KKR and the banks are negotiating terms on that deal, with KKR showing so far no sign it is willing to budge.
"When people are spending less, that affects First Data's revenue," said John Kraft, an equity research analyst covering payment processors at brokerage D.A. Davidson & Co.
If the economy slows, KKR will not find itself with a lemon, Kraft said, but he added that current market conditions may prompt a renegotiation.
"KKR could go to First Data and say: 'If we have to, we'll walk away' -- and First Data might then be more willing to sell at $32 a share instead of $34," he said.
"If the deal got canceled, First Data would be worse off than if the deal had not been announced."
Another private equity deal with heightened exposure to a severe economic downturn is Blackstone Group's (BX.N) $20 billion takeover of Hilton Hotels Corp HLT.N.
Recessions tend to hit hotel companies hard because travel and leisure spending dries up.
Blackstone Group offered to buy the company in July for a 40 percent premium -- at a time when the stock had already roughly tripled in the previous five years.
"It's very difficult to back out of these deals," said Robert LaFleur, a hotels and gaming analyst with Susquehanna Financial Group. Any attempts to back out of these deals now would likely land the parties in court, he said.
Because private equity firms often hold onto companies for several years, they are usually insulated from short-term blips in the economy.
"When you buy a business, you really do buy it for 3 to 5 years. You expect ups and downs, that's the beauty of private ownership over public ownership," said the CEO of a nearly $2 billion private equity fund who did not want to be identified.
One month of jobs data is hardly enough to have him worried about a recession he said, though he said one industry did look to be in tough shape.
"If you own something in the homebuilding sector, you're probably scratching your head right now," he said.
(Additional reporting by Dan Wilchins and Chris Reiter)
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