Private Equity Players

Private equity groups are a fast-growing part of a vibrant mergers and acquisitions market.

May 2006 | by Ingrid Case

Cary Musech of Tonka Bay Equity Partners says that there’s more interest in private equity investments now because they are often outperforming the stock market.

Photograph by Kelly Rogers

Join the Club

Another strategy involves partnering with other private equity firms. “You’re starting to see more and more private equity groups teaming up to make an acquisition of over $1 billion,” Murphy says. Called club deals, these partnerships let private equity groups risk less by staking a smaller percentage of their total assets.

Club deals can also help private equity firms find good deals at the high end of the market. Some firms believe that companies valued at more than $1 billion trade at lower multiples of EBITDA because fewer private equity groups are able to compete for them. Lannin estimates that purchase prices between $20 million and $50 million reflect a valuation of four to six times EBITDA. A purchase price between $50 million and $100 million might be six to seven times EBITDA, and a price between $100 million and $500 million might be seven to ten times EBITDA. “At some point above $500 million, the multiples begin to decline again, back to a range around six times EBITDA,” Lannin says. Partnerships help private equity firms reach that well-priced fruit.

Some private equity groups partner instead with hedge funds, Sweeney says, with each shouldering different levels of the capital structure. A hedge fund, which often has lower return expectations and higher safety requirements than a private equity firm, might buy an acquired company’s subordinated debt and preferred stock. A private equity firm can then buy the company’s common stock, with its higher risk—and potentially higher reward. The practice, Sweeney says, “is making the capital markets more efficient, which means that people can pay a higher price for a company and still expect a reasonable return.”

The coming year is likely to be another good one, Engler says. “I think it will look a lot like 2005, with a heavy emphasis on private equity deals, but with good participation by strategic buyers. But I don’t expect a record year.”

The market could be hurt, he says, by a decline in bank interest or a rise in interest rates. “The availability of debt financing on attractive terms is essential for the private equity leveraged buyout market,” Engler says. “If interest rates spike dramatically, or if the credit markets go haywire, the private equity market would suffer.”