Investment banks with both restructuring and mergers and acquisitions practices such as Chanin Capital Partners, Houlihan Lokey Howard & Zukin and Ernst & Young Corporate Finance (EYCF) are pitching to traditional private equity firms the purchase of bank debt or bonds of distressed companies as an acquisition strategy. With private equity investing becoming more competitive owing to a lot of money chasing a few good deals, acquiring a good company with a bad balance sheet through the purchase of its debt in the secondary market is an alternative way to gain control of the company and have a good return on investment, explained Richard Morgner, managing director at Chanin. He said he has received some 30 inquiries over the last three to six months from private equity clients, whom he declined to name, that are interested in exploring the strategy.
Houlihan is stepping up its efforts to discuss possible acquisitions transactions through restructuring situations with its private equity clients, said Jeff Werbalowsky co-ceo, because it is evaluating how to marry its restructuring and M&A product disciplines to benefit its clients. "We know the restructuring space and have a good idea what works and why," he said. Likewise, EYCF met with half a dozen private equity firms last week that were considering the strategy, which is a leap from almost no inquiries six months ago, said Scott George, senior managing director at EYCF. He declined to disclose the names of the firms.
Bankers said the advantages of the strategy include returns on investments that could range from a low 13-14%, which is better than returns from fixed income and equity investments, to a high 20-24%. Additionally, private equity firms can get better terms and conditions and position themselves higher in the credit structure with a distressed company, said Erica Bushner, managing director at Gerard Klauer Mattison and head of GKM Generation Fund, which invests in private equity funds. "And because they hold secured debt, they are ahead of equity holders, making their investment a little more safe," she said. She noted that Kelso and Company is looking to make its first foray into the distressed debt market. She referred CFW to Robert Grien, v.p. at Kelso, who did not return calls by press time.
Chanin's Morgner noted that at least two deals have come to market that reflect inclination from some traditional private equity investors toward the strategy. He cited Leonard Green & Partners which recently bought the debt of commercial mapmaker Rand MacNally, which filed for Chapter 11 last month. A Rand McNally spokeswoman said that Leonard Green is now the majority shareholder of Rand McNally, holding approximately 68% of the company's equity. Another example is the acquisition of the debt of bankrupt Loews Cineplex by Canadian leverage buyout firm Onex Corp. in March last year, Morgner said. Calls to officials at Leonard Green and Onex seeking comment were not returned by press time.