Analysis: With capital markets jittery, private equity pounces to finance tech buyouts

Golub Capital BDC

04/04/2022 17:08

(Repeats to fix formatting)
    By Krystal Hu, Chibuike Oguh and Anirban Sen
    April 4 (Reuters) - When buyout firm Thoma Bravo LLC was
seeking lenders to finance its acquisition of business software
company Anaplan Inc  PLAN.N  last month, it skipped banks and
went directly to private equity lenders including Blackstone Inc
 BX.N  and Apollo Global Management Inc  APO.N .
    Within eight days, Thoma Bravo secured a $2.6 billion loan
based partly on annual recurring revenue, one of the largest of
its kind, and announced the $10.7 billion buyout.
    The Anaplan deal was the latest example of what capital
market insiders see as the growing clout of private equity
firms' lending arms in financing leveraged buyouts, particularly
of technology companies.
    Banks and junk bond investors have grown jittery about
surging inflation and geopolitical tensions since Russia invaded
Ukraine. This has allowed private equity firms to step in to
finance deals involving tech companies whose businesses have
grown with the rise of remote work and online commerce during
the COVID-19 pandemic.
    Buyout firms, such as Blackstone, Apollo, KKR & Co Inc
 KKR.N  and Ares Management Inc  ARES.N , have diversified their
business in the last few years beyond the acquisition of
companies into becoming corporate lenders.
    Loans the private equity firms offer are more expensive than
bank debt, so they were generally used mostly by small companies
that did not generate enough cash flow to win the support of
banks.
    Now, tech buyouts are prime targets for these leveraged
loans because tech companies often have strong revenue growth
but little cash flow as they spend on expansion plans. Private
equity firms are not hindered by regulations that limit bank
lending to companies that post little or no profit.
    Also, banks have also grown more conservative about
underwriting junk-rated debt in the current market turbulence.
Private equity firms do not need to underwrite the debt because
they hold on to it, either in private credit funds or listed
vehicles called business development companies. Rising interest
rates make these loans more lucrative for them.
    "We are seeing sponsors dual-tracking debt processes for new
deals. They are not only speaking with investment banks, but
also with direct lenders," said Sonali Jindal, a debt finance
partner at law firm Kirkland & Ellis LLP.
    Comprehensive data on non-bank loans are hard to come by,
because many of these deals are not announced. Direct Lending
Deals, a data provider, says there were 25 leveraged buyouts in
2021 financed with so-called unitranche debt of more than $1
billion from non-bank lenders, more than six times as many such
deals, which numbered only four a year earlier.
    Thoma Bravo financed 16 out of its 19 buyouts in 2021 by
turning to private equity lenders, many of which were offered
based on how much recurring revenue the companies generated
rather than how much cash flow they had.
    Erwin Mock, Thoma Bravo's head of capital markets, said
non-bank lenders give it the option to add more debt to the
companies it buys and often close on a deal quicker than the
banks.
    "The private debt market gives us the flexibility to do
recurring revenue loan deals, which the syndicated market
currently cannot provide that option," Mock said.
    Some private equity firms are also providing loans that go
beyond leveraged buyouts. For example, Apollo last month upsized
its commitment on the biggest ever loan extended by a private
equity firm; a $5.1 billion loan to SoftBank Group Corp
 9984.T , backed by technology assets in the Japanese
conglomerate's Vision Fund 2.
    
    NOT CONSTRAINED
    Private equity firms provide the debt using money that
institutions invest with them, rather than relying on a
depositor base as commercial banks do. They say this insulates
the wider financial system from their potential losses if some
deals go sour.
    "We are not constrained by anything other than the risk when
we are making these private loans," said Brad Marshall, head of
North America private credit at Blackstone, whereas banks are
constrained by "what the rating agencies are going to say, and
how banks think about using their balance sheet."
    Some bankers say they are worried they are losing market
share in the junk debt market. Others are more sanguine,
pointing out that the private equity firms are providing loans
that banks would not have been allowed to extend in the first
place. They also say that many of these loans get refinanced
with cheaper bank debt once the borrowing companies start
building cash flow.
    Stephan Feldgoise, global co-head of M&A at Goldman Sachs
Group Inc  GS.N , said the direct lending deals are allowing
some private equity firms to saddle companies with debt to a
level that banks would not have allowed.
    "While that may to a degree increase risk, they may view
that as a positive," said Feldgoise.

 (Reporting by Krystal Hu, Chibuike Oguh and Anirban Sen in New
York
Additional reporting by Echo Wang
Editing by Greg Roumeliotis and David Gregorio)
 ((Krystal.Hu@thomsonreuters.com;))