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LBO sponsors introduce clause for concern

Conditions attached to buy-out completion is more a sign of desperation than discernment.

Two recent LBOs in the US market, the $1.3 billion buyout of retail company Linens ‘n Things by Apollo Management and the $1.8 billion buyout of school supplies company School Specialty by Thomas H Lee partners and Bain Capital, have both been structured to give the sponsors a way out.

The School Specialty deal fell apart in October, partly because the sponsors inserted a rare clause in the buyout agreement that made its completion contingent on extremely favourable financing conditions. The sponsors could get out of the deal if Libor went above 4.5% for three consecutive days between September 15 and October 30. The Citigroup high-yield index spread could not go over 430 basis points for three consecutive days in that period either. The weakening of the leveraged markets, and particularly the high-yield bond market during that time, allowed them to walk away.

Margins must have been tight for the deal’s success to be conditional on the leveraged market providing such cheap financing, as it has done for much of this year. But it could also indicate that the sponsors were not convinced of the merits of the company and wanted an excuse to get out of the deal between announcement and completion if its financial performance got any worse.

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