1. BIZ. BUZZ...
Leveraged Buyouts – An Alternative for Inorganic Growth
the lBo GeoGraphies play a role in lBo
We will now focus on LBO – the most successful too
and yet at times, the most disastrous way of going A leveraged buyout of an Indian company
about acquisitions. by either an Indian or a foreign acquirer is
The term ‘Leveraged’ signifies a significant difficult given the needs to comply with the
use of debt for financing the transaction. The legal framework and the scope of execution
purpose of an LBO is to allow an acquirer permissible in India. On the other hand, an
to make large acquisitions without having to Indian company might find it easy to do an
commit a significant amount of capital. A typical LBO of a company in some other geography
transaction involves the setup of an acquisition (Please refer to Table 3.1).
vehicle that is jointly funded by a financial From the perspective of Indian IT industry,
investor and management of the target company. Flextronics Software Systems, known as Aricent
Often the assets of the target company are used now, was bought by KKR for $ 900 M. KKR
as collateral for the debt. had put $300 million in equity and raised $350
Leveraged buyouts began as a kind of aid to million by way of dollar-denominated loans
Amar Singh the elderly. By the mid-sixties, many of the men from a consortium of banks led by ABN Amro
Head M&A who had founded family-owned companies and to finance the acquisition in 2006. It had taken
prospered during the postwar economic boom another $250 million in debt on the books of
were growing old. As they looked for ways to Flextronics Software.
Fusion & Fission in the avoid estate taxes, yet allow their families to retain IGate, backed by funding from Apax
Corporate World control of their firms, they had three options: Partners LLP, was to pay about $921M to buy
Two very small words ‘mergers’ and remain privately held, sell shares to the public, or 63 percent of Patni from the founding family
‘acquisitions’ are made even smaller – when we sell out to a larger company. and General Atlantic LLC followed by an
just prefer to call the activity M&A. The span Each approach had drawbacks. Remaining open offer to acquire a 21 percent stake for
in the corporate world however, is pretty much private ignored the problem. Going public about $301M.
like with its nuclear world counterpart. We exposed the founder to a fickle stock market.
have both fusions and fissions in the Corporate. Selling out usually meant losing operating issues With leveraGed Buyouts
M&A, limited to its technical scope, would autonomy. The LBO was invented by Kohlberg While LBOs have been criticized for
generally take care of the ‘fusion’ part whereas, (of the Kohlberg Kravis Roberts - KKR fame) irrationally high valuations of targets, what
‘fission’ would mean equally critical activities as 'the missing link,' a way for aging executives is important to understand is that one can
such as Spin-offs, Carve-outs, Asset sales and 'to have their cake and eat it, too.' His first deal, buy a share in the stock market at a fair value
Privatizations. in 1965, was the $9.5 million acquisition of a (not always!) but one has to pay a big control
Given the broad canvas, I intend to limit Mount Vernon, New York, dental products premium for prize assets. Strategic investments
myself first to M&A (fusion) and to an LBO maker named Stern Metals. therefore, could generally be more expensive
within that. Kohlberg formed a shell company, backed by than financial investments.
To keep it simple, let’s say a company could a group of investors he assembled, to buy Stern Another issue with the classic LBOs was
acquire in the following ways: from its seventy-two-year-old family patriarch, that the acquirer sold parts of the target after
ƒ Merge itself with another and still be known using mostly borrowed money. The Sterns acquiring it for the huge debt repayment –
by the same name – Merger retained a stake in the business and continued to keep the muscle and cut the fat, was what
ƒ Two companies after they merge could form a to run it. Eight months later Kohlberg sold some they called it! But this was not easy and
third new company – Consolidation of his stock—which he had bought for $1.25 a several times, the company suffered. But this
ƒ Buy shares of another listed company from share—to the public for $8 a share, using the is rarely seen in today’s LBOs where leverage
the shareholders in the open market – Tender proceeds to retire debt. is substantially lower than what was the
Offer (generally carried out in ‘hostile’ takeover Kohlberg then took the company on a buying practice earlier.
situations) spree, snapping up a California dental supply
ƒ Acquire the assets of the other company – company, an Ohio X-ray firm, and a European ConClusion
Asset Purchase maker of dental chairs. When the original Utilized properly, LBOs really help the M&A
ƒ Be acquired by its own management, or by investors sold off their $500,000 investment in machine which needs the lubricant of funds to
a group of investors, usually with a tender the transformed company to the public two years be able to function properly and helps achieve
offer. These acquisitions are called MBOs later, it was worth $4 million. the corporate their inorganic growth push.
(Management Buyouts), if managers are While this concept started out as a tool to help If you find the subject of LBO interesting, I
involved, and LBOs (Leveraged Buyouts), if the the elderly, it has blossomed into a big lever for would suggest you to read “Barbarians at the
funds for the tender offer come predominantly growth for small yet aggressive companies in fast- Gate”, the first and in my opinion, the best-ever
from debt. tracking their growth. book written on this subject.
Target Company Country Indian Acquirer Value Type
Tetley United Kingdom Tata Tea ₤271 million LBO
Whyte & Mackay United Kingdom UB Group ₤550 million LBO
Corus United Kingdom Tata Steel $11.3 billion LBO
Hansen Transmissions Netherlands Suzlon Energy €465 million LBO
Table 3.1: Some Famous Buyouts by Indian Companies
June 2011 3