Dec. 11 (Bloomberg) -- BCE Inc.’s C$52 billion ($41 billion) takeover was terminated by Ontario Teachers’ Pension Plan and a group of U.S. private-equity firms, prompting the company to demand a C$1.2 billion breakup fee.

The acquisition, set to close today, collapsed after auditor KPMG LLC said it would leave Canada’s largest phone company insolvent, the buyers said in a statement. Since the transaction required KPMG to give the company a clean bill of financial health to close, no termination fee is owed, said the group, which also includes Madison Dearborn Partners LLC, Providence Equity Partners Inc. and Merrill Lynch & Co.

BCE said the buyers walked away prematurely, entitling the Montreal-based company to the breakup payment.

The company “disputes that the purchaser was entitled to terminate the definitive agreement,” BCE said in a separate statement.

Ontario Teachers’ and the buyout firms agreed 18 months ago to pay C$42.75 a share to take BCE private. The stock closed at C$23.02 yesterday in Toronto, 46 percent less than the offer price. BCE dropped 5 percent to C$21.85 in German trading today.

Solvency Issue

The stock fell 34 percent on Nov. 26 on concern that KPMG was unlikely to bless the deal because of the C$34 billion of bonds and loans needed to finance the purchase. The company hired PricewaterhouseCoopers LLP to help persuade KPMG to change its opinion.

“It turned out to be more a saga than a deal,” said Paul Schaye, managing partner of New York-based Chestnut Hill Partners, which helps private-equity firms find companies to buy.

Failure of the BCE purchase brings the value of canceled LBOs since credit markets began seizing up to almost $100 billion. Financing for transactions evaporated after record subprime-mortgage defaults triggered a flight from debt investments including leveraged loans used to fund buyouts.

Buyouts that have fallen through include J.C. Flowers & Co.’s agreement to buy SLM Corp., the student lender known as Sallie Mae; casino operator Penn National Gaming Inc.’s deal with Fortress Investment Group LLC; and KKR’s plan to acquire Harman International Industries Inc.

Bankers Relief

The deal’s collapse is a boon to Citigroup Inc. and other lenders, helping them avoid selling loans into a market where debt used to fund LBOs is trading below face value. Citigroup, Deutsche Bank AG, Toronto-Dominion Bank and Royal Bank of Scotland Group Plc agreed to provide about C$34 billion of financing for the transaction. Based on current prices for leveraged loans, the banks faced a potential loss of at least C$10 billion had they been forced to fund the takeover.

Teachers and the buyout firms agreed to buy BCE as the record LBO boom that spanned 2006 and the first part of 2007 was nearing its end. A year later, under pressure from the banks skittish about selling the debt they committed to fund, BCE and the buyers agreed to a reworked deal.

LBO Era’s End

The close of the transaction was pushed back until December, giving the banks more time to find investors to buy the debt. BCE also agreed not to pay a dividend, effectively cutting the price of the purchase by about C$900 million.

BCE’s sales have stagnated for four straight quarters, contributing to falling profit. BCE, the parent of Bell Canada, is firing workers and selling property to compensate for declining landline customers, losing 72,000 in the last quarter.

After announcing a record $1.4 trillion of leveraged buyouts in 2006 and 2007, private equity firms have struggled to finance acquisitions as banks refuse to arrange financing for takeovers. Announced private-equity deals this year have fallen more than 70 percent, according to data compiled by Bloomberg.

Wall Street banks, the main source of debt funding for private-equity deals, have pulled back on commitments as global losses by lenders reached almost $1 trillion since the credit crunch began last year. Financiers including Lehman Brothers Holdings Inc., Bear Stearns Cos. and Merrill Lynch & Co. were among the firms that went out of business or were swallowed up at discount prices, eliminating some funding sources.

“BCE is the last gasp of an era,” said Steven Kaplan, a professor at the University of Chicago Booth School of Business. “It was conceived at the height of the private equity wave, which has crashed.”

Other acquirers have used insolvency opinions to get out of deals. New York-based buyout firm Apollo Management LP’s Hexion Specialty Chemicals Inc. has traded lawsuits since June with Huntsman Corp., which it agreed to buy for $6.5 billion in 2007.

To contact the reporters on this story: Jason Kelly in New York jkelly14@bloomberg.net; Jonathan Keehner in New York jkeehner@bloomberg.net.

Last Updated: December 11, 2008 08:31 EST