Private Equity Drama Unfolding

As the economy weakens and credit markets remain tight, we're seeing examples everywhere of private equity players under pressure as their boom-time buy-outs turn sour. I thought some interesting examples include Linens N' Things, purchased by Apollo back in 2006 for $1.3bn. A second rate player in what hindsight shows to be clearly the wrong business space, Linens N' Things is currently being liquidated. Even senior noteholders of the company are expected to suffer about a 70% haircut. Less senior creditors will probably do much worse. And Apollo's equity investment? Well unless I am missing something, they've been wiped out.

A second interesting example is First Data Corp, which was taken private by KKR in September 2007. Now First Data still possesses a strong core business and recent results were actually decent with core EBITDA growing. The main problem First Data faces is its mammoth debt burden and interest costs barely covered by EBITDA. And as if to ignore the fact that KKR is the one who got FDC into this mess, here we have a battle by private equity to shift economic losses to the debtholders. First Data recently announced (In November) a tender offer for various tranches of debt, but offering prices well below par with haircuts ranging from 13 - 65%. Thus KKR issues debt at 100 and then offers to buy back debt a year or so later well below par. 

Struggling the avoid the fate of Apollo above, KKR is playing a game of chicken with FDC creditors to see who blinks first. The most logical and fair solution to FDC's problems, from a claims perspective, would seem to be that KKR should sell a stake in FDC to another player, thus diluting their stake, but receiving capital to buy back debt at a better price for creditors. This would mean that KKR takes the economic hit first as it should. Creditors might then still be willing to accept a discount to par and FDC's financial problems could be reduced substantially. Thus with some negotiation, and also very much due to the underlying strength of FDC business, KKR should be able to avoid the fate of Apollo and Linens N' Things.

Other examples abound already, and expect more private equity drama in the year ahead.

(Vincent @ The Stalwart)

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