Dallas Fed President Richard Fisher suggested this week that
a bubble is already forming in private equity, with cheap debt fueling
high-priced deals in an echo of the torrid days of leveraged buyouts before the
subprime credit crisis cut off financing in 2007.
Fisher, who argued against the US central bank’s decision
earlier this month to buy $600 billion in Treasuries to boost the recovery,
told a San Antonio audience on Monday he is concerned about signs of
“speculative activity” in buyouts, along with stocks, bonds and commodities.
He singled out private equity giant Carlyle Group’s (CYL.UL)
recent agreement to buy telecoms firm Syniverse Technologies (SVR.N), saying
the price paid rivaled the lofty price tags common in the “pre-crash craze.”
“As you know, buyout people do not typically acquire
companies with a plan to expand the workforce, but instead with an eye to
tighten operations, drive productivity, rejigger balance sheets and provide an
attractive payback, usually in shorter time than under normal corporate
horizons,” Fisher said.
Carlyle agreed to pay a premium of 30 percent for Syniverse.
Sources told Reuters that another party had also been vying for Syniverse, but
lost out to Carlyle, which perhaps partly explains the premium.
A Carlyle spokesman declined to comment, but Fisher’s
remarks on private equity’s job-destroying potential drew a feisty response
from an industry group.
“The truth is that private equity firms often save jobs and
grow employment over time; increase spending on R&D, plants and equipment;
foster innovation; and deliver superior investment returns and social value,”
said Robert Stewart, a vice president at Washington-based Private Equity Growth
Capital Council, which represents many of the largest US buyout firms.
Private equity firms raise funds from investors such as
pension and endowment funds, and pledge to invest that capital over a certain
number of years. They typically aim to buy underperforming companies using a
large amount of debt, fixing them up and selling them at profit.
Such leveraged buyout deals practically vanished after the
credit crisis wiped away access to cheap financing, but have been returning as
debt markets and the economy have improved.
Deals today are much less debt-heavy than they were before
the crisis, with firms so far this year paying an average of 42 percent of the
deal price in cash, compared with 29 percent in 2007, industry figures show.
But some buyout firms, which raised billions when times were
better only to find they could not put the money to work, are under pressure to
spend the dollars before their investment periods come to an end. There is also
greater incentive to buy and sell assets this year, ahead of an anticipated tax
hike.
Kansas City Fed President Thomas Hoenig, who dissented at
every Fed meeting this year and called on the US central bank to raise, not
lower, borrowing costs, has also warned that further Fed easing may fuel
bubbles. But Fisher’s comments took the issue further by focusing on a single
industry that soared high before stumbling badly in the financial crisis.
Now cheap debt is back, with junk bond yields at their
lowest since October 2007, Fisher noted.
Easy borrowing terms have resurfaced as well.
Chicago-based Madison Dearborn funded a payout to its
partners just five months after its $915 million leveraged buyout of plastic
and steel maker BWAY Holdings with a $150 million bond that had a feature
common in the pre-crisis buyout boom - it allows a cash-strapped borrower to
make interest payments by simply taking out more debt.
Kohlberg Kravis Roberts & Co (KKR.N) partner Scott
Nuttall, who leads the private equity firm’s quarterly earnings calls, said
earlier in November that credit markets are now strong, allowing for the amount
of debt in new deals to rise.
In another sign of possible overheating, prices have also
jumped. Average purchase prices in 2007 were 9.7 times pre-tax earnings;
Carlyle’s Syniverse deal was about 9.5 times. And executives at some buyout
firms have begun to highlight rising valuations as a disincentive to doing deals.
“It’s much harder to find things of attractive value,”
Blackstone Group (BX.N) COO Tony James said on a recent conference call. “There
are some good companies being sold, but we just can’t get to the prices that
are required.”
Money is instead being invested in “very high proprietary
content,” James said, referring to deals that are created by Blackstone rather
than bidding in auctions.
