• Lenders want 'plain-vanilla' companies: Blackstone's James
  • U.S. businesses turning to European debt market for deals

Leveraged buyouts larger than $2 billion are hitting a wall in the U.S., scuttled by an unaccommodating financing market, KKR & Co. executive Scott Nuttall said.

“You can get a $1 billion or a $2 billion deal done -- it’s not clear you can do dramatically more than that in this environment,” Nuttall, the private equity firm’s head of global capital and asset management, said on a conference call Thursday with investors and analysts. “The U.S. market really pulled back pretty dramatically in the fourth quarter. There’s no question that right now it’s a risk-off environment.”

The comments echo observations made by executives at KKR’s private equity peers, which depend on debt financing to take over companies via leveraged buyouts. Riskier corporate loans became so unappealing in the fourth quarter that banks had to boost yields on more than $23 billion to sell them, compared with repricing $11.7 billion in the previous three months, according to data compiled by Bloomberg.

“Our entire private equity pipeline dried up,” Apollo Global Management LLC co-founder Josh Harris said Jan. 29. “The financing markets are shutting down. We were on the verge of signing these deals.”

‘Plain Vanilla’

Buyouts that can get done need to be simple, according to the executives: low leverage, an optimistic outlook that borrowings can be repaid on schedule, and a private equity sponsor that’s respected by creditors.

“The market likes plain-vanilla, solid businesses right now,” Blackstone Group LP President Tony James said Jan. 28. “You can still finance those well. If it’s a turnaround or a falling-knife kind of deal, it’s hard.”

Widespread stress in high-yield bond and loan markets, driven by the carnage in commodities and concerns that slower growth in China will have a ripple effect, has pummeled appetite for the debt of U.S. businesses perceived to be risky. Investors pulled $405 million from loan mutual funds last week, the 28th straight week of outflows, according to data provider Lipper.

Europe Option

The situation is rosier in Europe, where borrowing costs have been contained as the European Central Bank pledges to expand monetary stimulus. U.S. companies have turned to European lenders for $1.3 billion of debt this year, according to data compiled by Bloomberg, on track to surpass the $9.4 billion they borrowed in 2015.

“Europe is more constructive as a market -- it’s more stable,” said KKR’s Nuttall. “Deals are actually getting done. Billion-euro-plus transactions are doable.”

While private equity dealmaking has stalled, the firms’ credit operations are humming, the executives say. KKR’s and Apollo’s credit units, as well as Blackstone’s GSO Capital Partners, have stepped in to make loans to businesses and buy existing debt at discount prices. Apollo historically has built big debt positions in companies that may falter and be restructured, after which it hopes to emerge with an ownership stake.

KKR is also leaning on its capital markets unit to help get private equity deals done. In its acquisition of discount retailer Mills Fleet Farm, which was announced Jan. 5, the firm initially couldn’t get the terms it wanted on an $815 million debt package, Nuttall said Thursday. Instead, KKR’s capital markets group arranged the financing and marketed the debt directly to investors.

“Basically we just did it ourselves,” said Nuttall. “Instead of signing up for an un-economic debt commitment or walking away from the opportunity altogether, our capital markets team got to work.”

Skittish debt markets will affect more than private equity’s dealmaking. Mergers and acquisitions also will also suffer, according to Dean Mihas, a managing director at Chicago-based private equity firm GTCR, since banks have tightened up on loan packages.

Bond sales by companies worldwide slowed to an 11-year low in January as investors shunned risk amid a meltdown in capital and commodities markets.

“The debt markets are really shaky and that just puts a wet blanket on the M&A market,” Mihas said in an interview Thursday. “Everyone is feeling that, and the question is when does it normalize again. It’s not clear when that is.”

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