Dealwatch: PE firms going public

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Published June 22, 2007 at 2:00 PM

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Blackstone Group LP ended the week of June 18 on a high note. The private equity firm priced its initial public offering June 21 at $31 per common unit, at the high end of the expected range. Shares began trading the morning of June 22, and at market price, the firm had a market capitalization of nearly $38 billion. The successful float comes despite a last-minute appeal from two lawmakers to halt it and amid broader calls from Congress to increase the taxes paid by private equity firms and their chieftains.

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As The Deal's John Morris and David Carey point out:

A cascade of proposals to raise taxes on the private equity industry has emerged from Washington during the past week, beginning with a bill Sen. Max Baucus, D-Mont., and Sen. Charles Grassley, R-Iowa, presented June 14. Their draft bill would tax publicly traded buyout partnerships at the corporate rate of 35%. Firms such as Blackstone, which are organized as partnerships, are now exempt from federal tax. The measure would have given Blackstone and Fortress Investment Group LLC, a private equity and hedge fund firm that went public in February, a five-year exemption from the new tax because their IPOs had been planned before the measure was introduced. But Baucus said Wednesday he would consider shortening the grace period.

Other measures were also percolating in Congress this week that would tax much of the income the owners of private equity firms make as ordinary income, subject to marginal rates of 35%. This so-called carried interest — typically 20% of the gains booked when companies in their buyout funds are sold at a profit — has been taxed at the much lower 15% capital gains rate. That change would affect not only executives such as [Blackstone co-founder and chairman Stephen] Schwarzman, but also public investors in firms such as Blackstone and Fortress.

Also Friday, draft legislation to tax carried interest was introduced by House Democrats more sweeping than the Baucus-Grassley measure.

The market response to the float, they say, suggests the market is either downplaying the impact of the tax proposals or discounting the likelihood they will pass. Meanwhile, the tax debate is raging in Europe as well, and The Deal's Jonathan Braude suggests it should be addressed in the U.K. and the U.S. in the same manner.

But building up to the debut, Schwarzman was in the spotlight quite a bit, something that could have brought about the congressional response, and then tight-lipped on details until the eve of its debut.
The firm revealed some of the juiciest details in an amended filing June 11 — that Schwarzman took home $400 million last year — purely in performance-based cash distributions and that in total the firm paid its top five executives a collective $771.5 million. The Deal's Christine Idzelis points out some other details of note:
The prospectus revealed that Schwarzman owns 23.8% of the firm — a stake that will be worth $7.7 billion if the IPO goes out at the midpoint of $29 to $31 target range per share.
Schwarzman is earmarked to collect at least $449.2 million in the process, and up to $677.2 million if the greenshoe option is exercised.
Finally, the latest version of the prospectus showed Blackstone continues to grow rapidly. Its assets under management swelled 27% in the four months from Dec. 31, 2006, to May 1, from $69.5 billion to $88.4 billion.

NOTHING'S GONNA STOP US NOW

But despite the much-debated taxation issues, it may not deter firms. Blackstone's debut also comes as rival firm Kohlberg Kravis Roberts & Co. is weighing an IPO of its own, having secured Morgan Stanley and Citigroup Inc. — Blackstone's lead underwriters — to advise, a source familiar with the situation told The Deal.

CNBC said late April 3 that Apollo Management LP tapped Goldman Sachs Inc. and J.P. Morgan to explore a possible initial public offering, and contradictory reports subsequently surfaced. The New York Times' Dealbook and later The Wall Street Journal said Apollo has turned to bankers, without naming names, to explore a private stake sale to skirt the scrutiny an IPO filing would bring. The Journal pegged it at 10% and $1.5 billion. CNBC also cited Carlyle Group and Citadel Investments as possible IPO candidates.

The news came two weeks after Blackstone filed to go public and six weeks after Fortress tested public waters, garnering a $12 billion-plus market cap. The Journal suggested April 5 that the string of instances to generate more cash for partners is a testament to the argument the private equity market has peaked.

Blackstone's filing came March 22, just days after CNBC first reported the possibility and sources confirmed it for The Deal. Morgan Stanley and Citigroup are underwriting Blackstone's IPO. Two months later, the firm unveiled plans May 22 to sell a nearly 10% stake in itself for $3 billion to the Chinese government and gave further details on its initial public offering, saying it would sell a stake up to 12.3% by offering 133.3 million units between $29 and $31 per share.

Like the megabuyout wave Blackstone and its peers have ridden lately (see related Dealwatch), its IPO could set a similar wave in motion, The Deal's David Carey wrote when rumors first surfaces:

An IPO of such an influential and visible buyout player could pave the way for other privately held rivals, which include Kohlberg Kravis Roberts & Co., Texas Pacific Group, Apollo Management LP and Carlyle Group, to list their shares. A wave of IPOs would afford outsiders a first-time look at the books of the world's elite private equity houses at a time when the industry's profits and clout in the capital markets are at an all-time high.

Further, it seems to set the stage for a new era in private equity:

It also would mark an important new stage in the evolution of private equity as the industry's pioneers approach retirement and seek ways to monetize their holdings. Successful IPOs would confirm that these firms have been institutionalized and can survive the transition when their founders step down.

FIRST OUT OF THE GATE

Fortress Investment Group went public in February, the first pure private equity or hedge fund manager based in the U.S. to do so. The nine-year-old firm priced its shares at $18.50 apiece. They opened at $35 each on Feb. 9 and closed at $31. Fortress emerged from the offering with a $12.4 billion market cap.—Carolyn Murphy

Dealwatch executive summary
Date	Action
6.22.07	Blackstone's debut is a hit, despite congressional fire, likely sparked by a high-profile year for Schwarzman. The tax question should be treated the same in the U.K. and the U.S. House Democrats propose taxing carried interest.
6.21.07	Schwarzman took home $400 million last year; the firm continues to swell.
5.23.07	Blackstone sells stake to Chinese entity, details IPO.
4.05.07	Or Apollo may not.
4.03.07	Apollo may go public. Could Carlyle be next?
3.22.07	Blackstone files to raise up to $4 billion in an IPO.
3.16.07	Buzz surfaces Blackstone may test public waters.
2.16.07	Fortress soars in debut.
Source: The Deal

Dealwatch: PE firms going public

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