KKR targets Europe

A sure sign that Europe is embarking on an all-round M&A boom is that US leveraged buyout firm Kohlberg Kravis & Roberts (KKR) has arrived. KKR opened an office at London's St James's Square in January, replacing an earlier presence in Europe through an operation called Glenisla.

KKR's European managing director is Edward Gilhuly, a partner in the firm seconded from California. Gilhuly says: "The pace of opportunity has quickened dramatically in Europe. We decided that that the best way to be involved was to have a stronger presence on the ground."

The partnership is putting together its first private-equity fund to target Europe specifically. The pot could contain $2 billion to $3 billion, which compares to a $6 billion fund for US investments closed in 1996. That means Europe is now a great hope for KKR. It has bought four European companies in its history, compared to 75 in the US.

In the US, KKR helps management take three or four companies private in an average year. Gilhuly says: "In Europe, we will have done a good job if on average over the next few years we make two to three investments a year."

The firm's biggest European deal to date was the buyout of London-based insurance broker Willis Corroon for $1.6 billion last year. Six international insurance companies helped KKR buy up stock. Gilhuly says: "We thought [Willis Corroon] was a fine company, misunderstood in the marketplace. The value of distribution channels in selling complex financial products will increase in future. Insurers want to have choice in their distribution, so there is a need for another viable brokerage entity."

KKR has yet to venture into Europe beyond the UK and Switzerland, but believes the M&A wave hitting euroland will cast deals its way. Gilhuly believes: "Germany will be a major market over time. It's the largest opportunity." The UK is also likely to produce more deals. Gilhuly won't comment on speculation that KKR may buy Zeneca's specialty chemicals business.

Founding partners Henry Kravis and George Roberts will be involved in European deals. Gilhuly says: "We're very much one firm. This is not a European outpost. It is an integrated effort."

The firm's typical method is to buy companies using investors' funds leveraged by bank debt and high-yield bonds. After working with the existing management to restructure the company, KKR refloats it, often selling its stake for a multiple of the original investment. Since the restructuring phase can involve sharp cost savings, companies under European labour laws may prove harder to revamp than US companies.

Gilhuly admits the problem, but points out that Europe contains more chances to try: "These transactions are always complicated and difficult. While it is difficult to effect change in Europe, there are significant opportunities, because many European companies haven't been managed to their maximum potential."

Besides, buyouts don't just lead to sacking people: "Working with management, we look to change a company after we've bought it, but that doesn't just imply cutting costs. Often it means growing it aggressively, spending more on R&D or marketing, or giving a domestic company a more international focus." Battery maker Duracell and US supermarket chain Safeway are two of KKR's successes based on aggressive expansion as well as initial savings.

KKR's most famous deal was its hostile buyout of RJR Nabisco for $25 billion in 1989. KKR was stung by the adverse publicity: the US media panned the struggle for RJR as one of the 1980s' worst excesses of Wall Street greed.

So will KKR try to keep a low profile in Europe, avoiding publicity over junk bonds, investment bankers' fees and controversial restructurings? In fact, only hostile takeovers are ruled out. Gilhuly says: "There may be some high-profile deals we're prepared to do if they're economically attractive, and supported by the board of directors of the selling company."

The buyout industry's record in the US is disputed. To critics, KKR's deals loaded companies with expensive debt through junk bonds while making the management and KKR partners extraordinarily rich. But the competitiveness of US business in the 1990s has convinced other analysts that KKR's influential financial and management methods since 1976 contributed widely to US corporations' revival.

The same techniques of high leverage and long-term value-boosting may play a similarly small but influential role in the European corporate economy. Gilhuly says: "We think we've got a lot of valuable knowledge that we've built up over 23 years in the US and Europe."

Investment banks will watch KKR's moves eagerly. Salomon Smith Barney has already reacted by moving its global acquisition finance group, headed by Michael Klein, from New York to London in search of leveraged deals. Philip Keevil, Salomon's new head of European M&A, believes the general increase in M&A activity will throw off many a buyout.

Keevil estimates: "A $1 trillion annual European M&A market will produce perhaps $100 billion to $200 billion of opportunities for financial buyers. More capital for European LBOs is coming in every day." Salomon will follow buyout specialists like KKR, Hicks Muse Tate & Furst, and London competitor Doughty Hanson as they scour Europe for investments.

Keevil describes financial buyers as "in some ways, our M&A department's best customers".