By Krystal Hu, Chibuike Oguh and Anirban Sen.
(Reuters) – When buyout firm Thoma Bravo LLC was seeking lenders to finance its acquisition of enterprise software company Anaplan Inc last month, it skipped the banks and went directly to equity lenders- investment, including Blackstone Inc and Apollo Global Management Inc. Within eight days, Thoma Bravo secured a $2.6 billion loan based in part on annual recurring revenue, one of the largest of its kind, and announced the buyback of $10.7 billion. The Anaplan deal was the latest example of what capital market insiders see as the growing influence of the lending arms of private equity firms in funding leveraged buyouts, particularly of tech companies.
Banks and junk bond investors have grown nervous over soaring inflation and geopolitical tensions since Russia invaded Ukraine. This has allowed private equity firms to step in to finance deals involving tech companies whose businesses have grown with the rise of remote working and e-commerce during the COVID-19 pandemic.
Buyout companies, such as Blackstone, Apollo, KKR & Co Inc and Ares Management Inc, have diversified their activities in recent years beyond acquiring businesses to becoming corporate lenders.
Loans offered by private equity firms are more expensive than bank debt, so they were typically used primarily by small businesses that did not generate enough cash to win bank support.
Today, tech buyouts are prime targets for these leveraged loans, as tech companies often have strong revenue growth but little cash flow when spending on expansion plans. Private equity firms aren’t hampered by regulations that limit bank lending to companies that show little or no profits. In addition, banks have also become more cautious about underwriting risky debt in the current market turmoil. Private equity firms do not need to guarantee the debt because they hold it, either in private credit funds or in listed vehicles called business development companies. Rising interest rates make these loans more lucrative for them.
“We’re seeing sponsors doubling down on debt processes for new deals. They’re not just talking with investment banks, but direct lenders as well,” said Sonali Jindal, debt finance partner at the firm. lawyers Kirkland & Ellis LLP.
It is difficult to obtain comprehensive data on non-bank loans, as many of these transactions are unannounced. Direct Lending Deals, a data provider, says there were 25 leveraged buyouts in 2021 funded by more than $1 billion in so-called unitranche debt from non-bank lenders, more than six times as many of those transactions, which were only four a year earlier.
Thoma Bravo financed 16 of its 19 takeovers in 2021 by turning to private equity lenders, many of which were offered based on the amount of recurring revenue the companies generated rather than the amount of cash flow they had.
Erwin Mock, head of capital markets at Thoma Bravo, said non-bank lenders gave him the ability to add more debt to companies he bought and often closed a deal faster than banks.
“The private debt market gives us the flexibility to enter into recurring revenue loan agreements, which the syndicated market currently cannot offer,” Mock said.
Some private equity firms also offer loans that go beyond leveraged buyouts. For example, Apollo last month increased its commitment on the largest loan ever made by a private equity firm; a $5.1 billion loan to SoftBank Group Corp, backed by technology assets in the Japanese conglomerate’s Vision Fund 2.
Private equity firms provide debt using the money that institutions invest with them, rather than relying on a depositor base like commercial banks do. They say this insulates the wider financial system from their potential losses if certain transactions go wrong.
“We’re not constrained by anything but risk when we’re making these private loans,” said Brad Marshall, head of North America private credit at Blackstone, while banks are constrained by “what credit rating agencies rating will say, and how banks think about using their balance sheets.”
Some bankers say they are worried about losing market share in the junk debt market. Others are more optimistic, pointing out that private equity firms are making loans that banks would not have been allowed to make in the first place. They also say that many of these loans are refinanced with cheaper bank debt once the corporate borrowers start generating cash flow.
Stephan Feldgoise, global co-head of mergers and acquisitions at Goldman Sachs Group Inc, said direct lending deals allow some private equity firms to take on debt at levels banks wouldn’t have allowed.
“While it may to some extent increase the risk, they may view it as a positive,” Feldgoise said.
(Reporting by Krystal Hu, Chibuike Oguh and Anirban Sen in New York; Additional reporting by Echo Wang; Editing by Greg Roumeliotis and David Gregorio)
Copyright 2022 Thomson Reuters.