Deals

Gillian Tan is a Bloomberg Gadfly columnist covering deals and private equity. She previously was a reporter for the Wall Street Journal. She is a qualified chartered accountant.

An unlikely cohort is supporting Thoma Bravo's $3 billion buyout of analytics software maker Qlik Technologies.

The private equity firm has turned to a group of lenders known as business development companies, or BDCs, for nearly $1.1 billion in financing. That's the biggest ever slab of capital laid out at one time by such companies, whose bread and butter is to lend to small and medium-sized businesses. It also shows the industry's transformation since its creation by the U.S. Congress in 1980, with the goal of stimulating the U.S. economy by enabling investment in growing businesses that may have had a hard time accessing capital.

Leaps and Bounds
The BDC industry is fast becoming a more meaningful debt provider
Source: Deloitte, S&P Global Market Intelligence, CEFA

The Qlik deal, led by three BDCs -- Ares Capital, Golub Capital and TPG Specialty Lending (as well as AIG-backed Varagon Capital Partners) -- highlights that such lenders can fill the shoes of banks, and in some cases, be even better stand-ins. 

In this instance, BDCs had a leg up over banks owing to regulatory restrictions around leveraged lending. The Federal Reserve Board, Office of the Comptroller of the Currency and the Federal Deposit Insurance Corporation's leveraged lending guidance has hamstrung banks from funding deals that saddle companies with what regulators believe is too much debt.

Regulators' guided debt limit of six times Ebitda applies to most industries, and although some banks have pushed this boundary on software deals with success, the $1.075 billion debt package for the Qlik deal represents 10.4 times the company's projected 2017 Ebitda of $103.7 million. Banks would have found it tough to get that approved both internally and by regulators. That's the case even if earnings were to be adjusted for items such as future cost cuts (as is often the case in buyouts), and a credit for changes in deferred revenue, which could result in a debt-to-Ebitda figure closer to 7. 

Heading Higher
Qlik's projected Ebitda will likely be raised beyond Wall Street analyst estimates, but either way, results in a lofty leverage ratio based on a new $1.075 billion credit facility.
Source: Bloomberg
*Before the Thoma Bravo buyout, Qlik had no debt

It's notable that Thoma Bravo's director of capital markets, Erwin Mock, said in a statement that the financing "required a quick commitment" from Ares and the other BDCs. That's something that banks cannot guarantee in this regulatory environment. 

Market conditions also favor BDCs over banks: Although the leveraged-loan market has broadly rebounded from a tumultuous start to the year, the second-lien market, which features riskier debt, hasn't completely recovered. That means there's pricing risk -- known as flex -- especially for the junior portion of any borrowings.  

By agreeing to the BDC-provided credit facility, Thoma Bravo has certainty around how much it will pay for most of the debt, as opposed to being subject to the whims of loan investors. BDCs also have the advantage of being able to own the debt for the long term, as Ares Capital plans to do in this situation, rather than re-selling it to investors as banks do. When conditions are unstable, banks can be forced to delay such sales or end up re-offering the debt at a discount, leaving them with losses that can add up to tens or hundreds of millions. And while the BDCs' unitranche facility includes some covenants that are absent from bank-arranged debt, it's favorable because it's a larger volume of debt than what's otherwise available from banks. 

BDCs aren't the only winner from this deal. Thoma Bravo's purchase of Qlik marks a quick victory for activist investor Elliott Management, less than five months after it began accumulating a 10.8 percent stake and three months after it disclosed the initiation of talks with the software company's management. Elliott is set to make a return of roughly 31 percent, assuming derivative contracts for a 5.8 percent stake in Qlik were struck at a price similar to the average of $23.29 paid by the fund for its 5 percent stake.

Big banks needn't fret about being replaced completely by BDCs, which haven't proven their ability to finance multi-billion dollar deals (although this could change as they get larger). And, depending on so-called call provisions, or Qlik's ability to repay debt, banks may find themselves involved in future refinancings that can lower the company's borrowing costs  -- so they could regain the turf they've currently conceded. 

Until then, move over, JPMorgan, Bank of America, et al -- these lenders can fund buyouts, too. 

This column does not necessarily reflect the opinion of Bloomberg LP and its owners.

  1. A small portion of the facility will be sold to investors.

To contact the author of this story:
Gillian Tan in New York at gtan129@bloomberg.net

To contact the editor responsible for this story:
Beth Williams at bewilliams@bloomberg.net