Financial sponsors are increasingly turning to the loan and bond markets to take dividends through recapitalizations as traditional routes for realizing equity returns remain limited. A liquid high-yield market is making recaps more attractive and feasible than trying to cash out in a spotty equity market, bankers and investors said, and limited partners are pushing for returns. "For many private equity firms there is a heightened awareness that limited partner investors are looking for a return on capital and a recapitalization is a means in which to achieve that objective," stated Michael Wong, a v.p. at Leonard Green & Partners.
Sponsors typically look to sell the company or take it public. But in today's markets, the sponsor can get more competitive returns through a recapitalization --refinancing existing debt and pulling out some equity to pay sponsors. Strong technical pressures make this an attractive market for issuers, stated Lucine Kirchoff, managing director and head of Banc of America Securities (BAS) syndicated finance research. According to BAS' leveraged loan forward calendar, 58% of current loan institutional volume is attributable to sponsor activity and a large percentage of this activity is recapitalizations. This level of sponsor activity is 75% higher than a month-and-a half ago, she added.
Philip Anschutz and Oaktree Capital, who collectively own the majority of Regal Entertainment Group, will benefit from a special dividend of between $600-625 million, said one analyst. CBD Media is planning to provide a cash dividend of approximately $133 million to Spectrum Equity Investors and Broadwing, while Clayton Dubilier & Rice is taking a dividend from Jafra Cosmetics International.
Additionally, recapitalizations provide a payout without having to sell the company outright. There are high-quality assets, such as Werner Ladder, where equity sponsors are unwilling to sell at the valuations being offered, Wong said. "Many owners believe now is not an ideal time to exit a business while we're still climbing out of the trough of the economic cycle," said Ed Garden, a managing director in Credit Suisse First Boston's financial sponsor group. "Many financial sponsors are looking at their portfolios for companies that have what it takes, but it's a pretty select group that can." Garden said strong free cash flow, a history of paying down debt and management that is proven in its ability to operate with leverage is required. The last point is key. "This type of deal only works if investors think it is prudent and the leverage is appropriate," Garden said.
A loan buysider agreed. "We're happy to stay in if they cut the capital structure right," he said. The current crop of recaps is also more conservative than some in the past which were hyper-aggressive, the buysider added. This frenetic recap activity could also fuel more deal flow for investors. Financial sponsors monetizing their positions in mature investments can put that money to work in new deals, generating more deal flow for everyone, Kirchoff noted.