Providence, Cinven and KKR launch first strike in public-to-private M&A

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By:
Peter Lee
Published on:

Fewer exits at lower prices will depress private equity returns for now, but the time is fast approaching to snap up bargains to boost performance.

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At the start of June, listed Spanish telecom company MasMovil announced that it had received a takeover approach from a consortium of private equity bidders comprising Providence Equity, Cinven and KKR.

MasMovil, which has been busily acquiring smaller competitors such as Lycamobile Espana, Llamaya and Lebara to consolidate its position as the country’s fourth-ranked provider, confirmed that it had been in negotiations with the consortium and gone through confirmatory due diligence.

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Meinrad Spenger, MasMovil 

A formal bid is yet to be put to shareholders, but the company claims the private equity consortium supports its present business strategy and management team. The company statement, signed by chief executive Meinrad Spenger, adds: “Once the offer is authorized by the [national securities market regulator] CNMV, if that is the case, the board of directors believes that this is a transaction beneficial for MasMovil’s shareholders and other stakeholders.”

From €18.7 at the previous day’s close, the share price shot up by 24% to €23.2 on reports that the bidders might offer around €22.5 for a stock that had traded as low as €12.7 in the second week of April.

More private equity general partners with substantial dry powder – in the form of capital commitments from pension plans, sovereign wealth funds and family offices – will be eager to invest in the early stages of the return to normality.

In recent months, large sponsors with flexible mandates like KKR have been taking positions through preferred stock in listed companies willing to pay high dividends with the added upside of conversion into common equity. Companies need new capital to negotiate covenant waivers with their banks.

Full-scale takeovers, including public-to-private deals, will not become commonplace until both target company management teams and private equity bidders have greater confidence in the revenue outlook for 2020 and 2021.

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Intriguing

MasMovil is an intriguing early signpost along that path, albeit a deal that looks like it was quietly moving long before Covid.

In June, Investec Corporate and Investment Bank published its 10th annual survey of trends among private equity general partners.

More than 60% of general partners believe the pandemic will have a more severe impact on the private equity industry than the calamitous events of the great financial crisis 12 years ago.

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Christian Hess,
Investec

Most have already rushed to ensure portfolio companies conserve liquidity. General partners also have to think about managing the expectations of the limited partners whose money they manage. Fully 50% do not expect to make a portfolio exit for the next 12 months and 58% expect returns to be worse over the next two years than they were in 2019.

This comes as general partners face tough questions on performance metrics following the publication of a widely shared paper from Ludovic Phalippou, professor of financial economics at the University of Oxford Said Business School. This suggests that the net multiple of money private equity funds have actually returned to investors in the years since 2006 roughly matches public equity market indices, despite the exorbitant management fees paid.

After the last crisis, sponsors were at least able to pick up bargains which over the next couple of years flattered their widely published internal rates of return, numbers that Phalippou denounces as any valid measure of what investors actually receive.

Can private equity buyers at least repeat that trick?

Investec finds that 73% of general partners now think 2020 vintage deals will eventually outperform those from 2010, compared to only 26% before Covid-19 struck. Some 53% of bargain-hunters expect to look at a public-to-private deal in the next 12 months (up from 50%). 


Everyone needs to see a few months of trading data in reopening. That’s when buyers might quickly return, though whether vendors also come back, remains to be seen 
 - Christian Hess, Investec

However, the fact that public share prices bounced back so swiftly on central bank liquidity injections and government support for national economies complicates the picture.

Christian Hess, PE client group head at Investec, tells Euromoney: “As a buyer with dry powder in the form of committed capital, you do not want to buy something today that in six to 12 months from now turns out to look like a misjudgment. And if management teams cannot yet confidently budget for 2020 and 2021, then any buyer must apply a discount, which may be hard for any vendor to accept.”

So, don’t expect a flood of deals to follow MasMovil.

Hess says: “Everyone needs to see a few months of trading data in reopening. That’s when buyers might quickly return, though whether vendors also come back, remains to be seen.” 

He concludes: “I am telling my teams that a pick-up in change of control transactions is unlikely before 2021. And for public-to-private transactions to be feasible, you need the primary financing markets to be fully open, which they are not right now, even though some regular high-yield borrowers with strong recurring revenues can issue.”

Appetite

Callum Bell, head of lending, growth and leveraged finance at Investec, adds: “There’s a lot of dry powder in private debt and there have been good opportunities to put money to work in secondary markets; however, portfolio businesses remain the priority.

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Callum Bell,
Investec 

“In the primary loan market, there is still appetite to selectively lend to businesses that are in non-cyclical sectors and demonstrating resilience through Covid. We have seen cases where a debt fund underwrites an entire transaction and brings in other funds to provide financing certainty.”

But even when finance is available, terms are turning in favour of lenders and hardening for borrowers.

Bell says: “Acceptable leverage is likely to come down, for example from pre-Covid peaks in some cases by 1.0 times of leverage, notably for the strongest borrowers, while pricing has widened by anywhere from 100bp to 300bp for private debt providers.”

General partners want to continue fund raising because that brings fee income, even though difficulty in making exits and returning money to LPs makes that harder. They also have plenty to think about in managing fully invested portfolios.

Hess says: “Take a general partner with 10 portfolio companies, four of which still have liquidity challenges, six of which see themselves as winners and want to do bolt-on acquisitions. There’s a typical rule of thumb to preserve 10% of a fund. We’ve seen a number of private equity funds already having to put additional equity into portfolio companies. 

"If 10% isn’t enough to do that and make bolt-on acquisitions for stronger companies, do they let one of the weaker ones go? Or do sponsors need to create more liquidity and raise financing lines at the general partner level to add flexibility to their own working capital?”