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Just when the middle market was looking like a good place to be for private equity, financial buyers are getting spooked. The reason? They have had to work much harder to obtain financing commitments and to provide certainty of closing. As the latest indicators show, volumes have come down in the middle market, though not as dramatically as they have in the megadeal category. Financing has tightened to such an extent that buyout execs are having anxious discussions with lenders, banking sources say. Anecdotally, buyers find themselves either putting up more equity in a transaction or tapping a bigger group of lenders than they've had to when times were good. On a national average, equity contribution by sponsors on all LBOs constitutes nearly 42% of deals, against 32.9% last year, according to a recent survey by Standard & Poor's.
Competition for high-quality deals is becoming more fierce, and bidders without financing contingencies have a leg up, bankers say. Companies of higher quality are attracting more bidders; prices have therefore firmed up, and in some cases multiples have even gone up as well. "When you've got limited debt availability and relatively high multiples, your equity piece goes up," says Michael Rosenberg, CEO of Los Angeles boutique advisory firm Barrington Associates. Rosenberg says his firm advised a seller in December in a transaction that was priced north of 10 times the company's Ebitda and where multiple bidders were involved. The equity portion was almost two-thirds of the entire transaction value, he adds. Senior debt for deals that are cash flow driven, as opposed to asset-based, is the toughest to complete, say other sources who advise clients and financial sponsors to assemble clubs and spread the risks around. While commercial banks have pulled back, a plethora of specialty finance groups, the largest of which is General Electric Capital Corp., have stepped up to fill the void, bankers say. The dynamics among midmarket lenders has also changed, sources say. Often a sponsor will pick a lead agent, with other lenders providing early indications that they will join the club. Some sponsors in some cases may take on the role of syndication for the financing. New York-based Churchill Financial LLC tries to position itself as a lender as well as a lead agent. Over the past nine months, the firm has helped sponsor clients avoid going to second-lien or mezzanine lenders, which offer much more expensive financing, by orchestrating club deals, says Randy Schwimmer, head of capital markets. Churchill itself tries not to hold more than $15 milllion or $20 million of debt in the typical midmarket range. It closed a recent LBO with a sponsor who needed $45 million in senior debt. Churchill competed with other arrangers willing to hold the whole amount, though the cost of that option was significantly higher than LIBOR + 500 basis points. The firm convinced the client it could do better by clubbing, Schwimmer says. Sometimes, results can be somewhat extreme. Barrington recently managed a transaction involving $100 million in financing that took six lenders to get done. In another case, San Francisco private equity firm Gryphon Investors recently paid about $50 million for a food outsourcing services plattform created by the combination of Aladdin Food Management Services Inc., AmeriServe Food Management Services and Fitz, Vogt & Associates Ltd. Michael Bailey, former CEO of the U.K.-based food service provider Compass Group plc, is heading the new company, TrustHouse Services Group Inc. The club consisted of four lenders, co-led by CIT Group Inc. and Merrill Lynch & Co.'s global asset management unit. The debt was a staggering $27 million. -- Vyvyan Tenorio See The Deal newsweekly CategoriesContributed content from Middle market video
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