Financiers are taking the world private.
Whether it’s radio-station conglomerate Clear Channel Communications, hospital operator HCA Inc., credit-card processor First Data Corp., utility giant TXU Corp. or automaker Chrysler, private equity is out to conquer.
Large pension funds and other institutional investors have increasingly poured money into buyout firms, chasing better returns than the stock market can offer.
“There’s a huge backlog of money in private equity,” said Ron Rizzuto, a finance professor at the University of Denver’s Daniels College of Business. “It’s going to take awhile to churn through.”
Monday’s announcement that Cerberus Capital Management, a New York firm headed by former U.S. Treasury Secretary John Snow, struck a $7.4 billion deal to acquire Chrysler is no surprise.
Private firms like Cerberus announced a record $188 billion worth of leveraged buyouts in the first quarter of the year, according to Bloomberg News. And they’ve collectively amassed a $250 billion war chest since the beginning of last year. That’s enough for $2 trillion worth of leveraged acquisitions, according to a report by investment banker Morgan Stanley.
Plenty of companies with publicly traded stock will fall into their cross hairs.
A recent analysis by investment bank JP Morgan listed Denver-based Qwest as one of five likely leveraged- buyout targets in the telecommunications sector.
The way money gets made in these deals can be bloody. Buyout firms often strip businesses of cash and load them with debt to pay themselves small fortunes. Then they take out the hatchets, cutting costs, slashing jobs and hacking away anything they can sell. If they don’t break the companies into pieces, or sell them to another buyer, they take them public and start the cycle all over again.
“They leverage it up and squeeze everything down, but sometimes this is what it takes to make (a company) more efficient,” Rizzuto said.
The additional debt, however, leaves a company vulnerable to economic shocks and certainly a lot less creditworthy.
“If the private equity/hedge fund buyout trend continues … the market would be faced with substantial amounts of investment-grade debt quickly transitioning down the rating scale, possibly to high yield,” wrote Robert F. Young of debt-ratings agency Moody’s Investors Service in a recent report.
“High-yield” is just another term for “junk bond.” Taking the world private means filling it with high-risk debt.
Lynn Turner, director of research for the investor-advisory firm Glass Lewis & Co., said private equity is hotter than ever because corporate managers and directors are less accountable than ever.
Daimler-Benz AG bought Chrysler for $36 billion in 1998. Now, it’s selling 80 percent of the company for $7.4 billion.
“Instead of saying we’re going to fix the problem, they are just going to sell it,” Turner said.
Perhaps U.S. automakers’ problems are so profound, there isn’t a better option.
United Auto Workers president Ron Gettelfinger earlier warned that a private- equity buyer would “strip and flip” Chrysler. By Monday, Gettelfinger embraced the deal. Perhaps he realized other suitors, such as billionaire Kirk Kerkorian, wielded sharper knifes.
Or perhaps Gettelfinger didn’t believe he was getting a snow job as Cerberus vowed to retain $19 billion in Chrysler’s retiree health-care liabilities. “As the company succeeds, it will maximize the opportunities for its workers,” said Cerberus’ Snow.
The Big Three automakers are so swamped with rising pension and retiree health-care costs, they can’t compete with their Japanese counterparts.
“The way to make real money here is to turn this company around,” said Peter Morici, former chief economist at the U.S. International Trade Commission and a professor at the University of Maryland’s business school. “If they end up selling off, it’s going to be because the UAW doesn’t cooperate.”
Chrysler once needed a government bailout. Now, it’s private equity to the rescue. Can Cerberus save Chrysler?
Tall order for a firm that shares its name with the three-headed dog that guards the gates of Hades.
Al Lewis’ column appears Sundays, Tuesdays and Fridays. Respond to him at denverpostbloghouse.com/lewis, 303-954-1967 or alewis@denverpost.com.
