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Downturn forces buyout firms into merger deals

LONDON (Reuters) - Private equity firms are becoming drivers of merger deals as the economic downturn is hurting many of their own companies, forcing them into uneasy cooperation with their rivals, industry experts said.

The groups, which are sitting on $1 trillion (700 billion pounds) of unspent investor cash raised during the boom, are mulling mergers of companies they own, and injecting scarce cash into other firms as they look for novel ways to make returns.

Private equity firms whose funds are exhausted may also resort to cash injections from rival houses.

However, the deals have obstacles to overcome as the industry adjusts to the idea of forging closer ties with erstwhile rivals.

“With fewer healthy deals being done, the focus is really on the distressed side,” said Scott Dunfrund, co-head of European corporate finance at Houlihan Lokey.

“And with the constrained financing, if I am a private equity principal or partner and I’m looking for ways to grow my portfolio ... this is one of the areas I am going to take a look at.”

Houlihan Lokey is currently advising on a potential merger in the auto parts industry, in which one of the parties is in distress and the other is relatively healthy, Dunfrund said, declining to name the companies involved.

Nick Jones, a partner at corporate finance house Clearwater, said he is also advising on potential mergers, and is currently pitching one in the financial services sector to a private equity firm.

Such deals could take place between two companies owned by separate private equity houses, or between a private equity-owned firm and a publicly-listed company or its subsidiary.

“But both would (need to) be sub-optimal, both would need strengthening and the corporate could be strapped for funding,” in order for the deal to make sense, Jones said.


Private equity firms with dedicated funds to invest in distressed assets may come to the rescue of troubled companies held by their rivals, offering them the chance to take control for a relatively small outlay.

“If somebody has a fund that’s exhausted and a company that needs 50 million pounds to sort out its banking, there may be a deal to be done,” said Jon Moulton, a managing partner at Alchemy Partners.

Moulton said he was working on a number of deals that could be completed in days and others that would take months, and he expected more such activity ahead.

These types of mergers and bailouts present obstacles.

One problem is that if a change of control clause is triggered, it could set off an expensive debt renegotiation that could wipe out any potential merger synergies.

“If your financing package is very attractive on terms that were agreed 18 months or two years ago, you don’t want to have to refinance that as a result of the merger,” said Florus Plantenga at Houlihan Lokey.

Moulton of Alchemy Partners said that such terms are often absent in deals that were done later in the private-equity bubble, which lasted until the middle of 2007.

However, if there are changes to control clauses, Andrew Roberts, a private equity partner at law firm Travers Smith, said that rolling the two companies into a new company and splitting the equity between the two parties might provide a way out.

Potential clashes between the private equity partners involved in a deal could be another problem.

While large buyout firms, such as Permira and Apax, have a history of doing club deals, smaller firms often dislike sharing decision-making.

“When you come down to the mid-market, it’s absolutely not common at all. Most houses stay away from each other,” said Clearwater’s Jones.

These testing times will require firms to be more flexible, particularly as the deteriorating environment can rapidly push a company into bankruptcy.

Paul Canning, managing director at H.I.G. Europe, which does distressed and plain buy-out deals, believes there will be restructurings in which all parties will be able to reach an agreement quickly.

“If that means that some of the parties that were historically involved keep some involvement, then fine, if that helps speed up the restructuring,” Canning said.

Editing by Karen Foster