Behind the Buyout Bust
The buyout market went into a stunning decline in the third quarter of 2007. The value of deals by private equity firms tumbled 68% from the second quarter as a liquidity crisis all but wiped out the credit that makes such deals possible, according to a report on Sept. 27 from researcher Dealogic.
The fact that there was a decline in deal activity amid the financial crisis isn't really a surprise. But the Dealogic report does add fresh details that illustrate the magnitude of the market shift. For example, worldwide there were just three buyouts of $1 billion or more during the month of September, one-tenth of the record 30 deals recorded a mere five months earlier, in May (BusinessWeek.com, 7/27/07). "The pace of buyouts slowed dramatically in the third quarter, as the once buoyant market ground to a halt," Dealogic said in its preliminary analysis of the quarter. Final data for the period is scheduled to be released on Oct. 1.
U.S. M&A Market Slammed
The report says the decline in private buyouts was part of a broader slowdown in mergers and acquisitions (BusinessWeek.com, 7/19/07). The trend was global, although it was most severe in the U.S. Global M&A in the third quarter slowed to $992.1 billion, down 43%, from $1.7 trillion during the second quarter of 2007. The third quarter this year was still 24% higher than the volume of $799.5 billion during the third quarter of 2006.
Even in the tumultuous market, the top investment banks remained true to form. Goldman Sachs (GS) led all firms in advising on M&A transactions, with 343 deals worth a total of just more than $1 trillion. The firm was followed by Morgan Stanley (MS), JPMorgan Chase (JPM), Citi (C), and Switzerland's UBS (UBS).
M&A activity took the biggest hit in the U.S., the epicenter of the housing-led credit crunch. Deal volume in the U.S. fell nearly 50% during the third quarter, to $308 billion, down from $606 billion in the second quarter. U.S. deal volume for the quarter was up 13%, from $274.1 billion during the third quarter of 2006.
Signs of Life
The question now is whether the third quarter is the bottom. Some bankers and analysts are cautiously optimistic that the market is starting to pick up with the fourth quarter about to get under way,
The greatest sign of hope comes from the market for corporate loans. Loans needed to finance several large leveraged buyouts are starting to sell, after their prices were sliced by moderate amounts. KKR's buyout of First Data (FDC) moved forward on Sept. 27, as bankers behind the deal sold $10 billion worth of loans, according to one banker familiar with the matter. That figure was twice as high as the banks had hoped to sell, suggesting that demand for corporate debt is rising and that buyers are returning to the market. "It feels like the liquidity crisis is starting to recede and we are starting to return to credit fundamentals," the banker says. He says the Federal Reserve's recent moves to lower interest rates were a turning point in the recovery.
The return of fully functioning credit markets, in which banks lend money to buyout firms and get it off their books by selling it to investors, could facilitate dealmaking. And some experts predict the market that emerges from the bust could be stronger in some ways (BusinessWeek.com, 3/23/07). "The credit squeeze could end up being a good thing because it is bringing sanity back to deal pricing. And there is still huge amounts of money looking for good, well-rated projects," says Tim Philpotts, a partner and public infrastructure specialist at Ernst & Young Transactions Advisory Services. The firm advises buyout firms and other investors.
Even if the third quarter is a bottom for the deal market, no one is predicting a return of the freewheeling bull that prevailed until the spring. Still, any improvement over the dismal days of September is bound to be appreciated.