Harman deal puts spotlight on stub equity

By Jessica Hall and Michael Flaherty

PHILADELPHIA/NEW YORK, April 26 (Reuters) - The $8 billion takeover deal on Thursday for Harman International Industries Inc. (HAR.N: Quote, Profile, Research, Stock Buzz) gives shareholders the chance to keep a stake in the audio-equipment maker and marks a novel move by private equity firms to appease growing resistance from public investors.

Although several private equity deals in Europe have offered shareholders the chance to co-invest alongside private investors, the stub equity concept has rarely been seen in the buyout frenzy in the United States.

Stub equity holdings could become more popular as companies try to negotiate better deals with cash-rich private equity buyers and investors become more demanding in their right to benefit from the future growth of their companies, experts said.

The concept of stub equity was considered during the recent auction of Clear Channel Communications Inc. CCU.N, but the radio-station operator ultimately chose a higher amount of cash rather than a minority stake in the new private company.

The leveraged buyout of Harman has brought the concept back into the spotlight.

Kohlberg Kravis Roberts KKR.UL and Goldman Sachs Group Inc.'s (GS.N: Quote, Profile, Research, Stock Buzz) private equity arm agreed to buy Harman for $120 a share in cash. Harman shareholders can elect to receive some of that compensation in the form of stock in the new privately held company. Harman shareholders would own a maximum of 27 percent of the new private corporation.

"Either they (the buyers) want to give shareholders a stake in the upside, or they want to gain an accounting benefit," said Michael Ryan, a partner specializing in private equity at law firm Cleary Gottlieb Steen & Hamilton LLP.

Ryan said that for accounting reasons deals are sometimes structured to leave about 25 percent of the original stock outstanding, a technique that has existed for a long time, and occurred recently in the Sealy, Healthmarkets, and Team Health acquisitions.