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Leveraged Buyout Market. -What Happened? -Where Are We? -Where Are We Going?. Presented by: Elias Sabo, Partner Compass Group Management, LLC April 2009 – FEI: 6 th Annual Scholarship Awards Banquet. Table of Contents. Introductions. LBO Boom In Perspective.

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  • -What Happened?

  • -Where Are We?

  • -Where Are We Going?

  • Presented by: Elias Sabo, Partner

  • Compass Group Management, LLC

  • April 2009 – FEI: 6th Annual Scholarship Awards Banquet

Table of Contents


LBO Boom In Perspective

Growth & Collapse Of The Leverage Market

The Current Market

Equity Buyouts – Are They An Alternative?

What Should You Expect from Debt and Equity Sponsors?

Compass Group Management Overview

  • Compass Group Management LLC (“Compass”) is an external manager making investments in high return assets on behalf of two primary investment pools:

  • Compass Diversified Holdings (“CODI”): Publicly traded holding company with approximately $1 billion of capitalization targeting middle market buyouts – currently over $400 million of availability to consummate acquisitions.

  • Kattegat Trust: Philanthropic organization which has provided over $350mm of equity capital to invest opportunistically in high return assets.

  • CODI is the first U.S. listed, pure play private equity vehicle.

  • Offering completed May 16, 2006 with four initial controlled companies (currently six).

  • CODI provides 100% of the capital needed to consummate acquisitions allowing:


    • Streamlined diligence process

    • Reduced time to close

    • Increased confidentiality

  • Diversified portfolio and public structure reduces cost of capital.

  • Permanent capital base removes need to exit around fund cycles.

End of the Party

After hours at the New York Stock Exchange, 1938. (BettmanCorbis)








The Boom Years

  • Starting in 2002, the economy experienced a dramatic boom in growth.

    • Nominal GDP grew 36% (5.3% CAGR) between 2002 and 2008.

    • S&P 500 grew 67% (10.8% CAGR) between 2002 and 2007.

Source: Bureau of Economic Advisors and Yahoo Finance

Note: Nominal GDP in Red

Asset Class Expansion

  • US Leveraged Loans Outstanding:

  • Grew from $13.6 billion in 1996 to $132.5 billion in 2002 (46% CAGR).

  • Further grew from $132.5 billion in 2002 to $596.1 billion in 2008 (28% CAGR).

    US Home Mortgage Debt Outstanding:

  • Grew from $6.0 trillion in 2002 to $10.4 trillion in 2008 (9.6% CAGR).

    US Consumer Household Debt:

  • Grew from $2.0 trillion in 2002 to $2.6 trillion in 2008 (4.4% CARG).

    US Financial Sector Debt Outstanding (excludes non regulated financial companies):

  • Grew from $1.0 trillion in 2002 to $17.3 trillion in 2008 (60.8% CAGR).

    According to a market survey report performed by the International Swaps and Derivatives association, it is estimated that credit swaps on CDOs and other contracts not captured on the DTCC’s Trade Information Warehouse may exceed $47 trillion, representing a 100 fold increase over the past decade.







# of Agents

$ in billions

















MM Sponsor

MM Lead Agents

Growth of Middle Market Leveraged Loans

MM Sponsor Volume vs. # Lead Agents

Source: Standard and Poor's 4Q08 review and Middle Market Lenders

An Excess of Debt Issuances

  • Leveraged buyout levels reached unprecedented levels in 2006 and 2007 vs. average 1998-2005 levels.





Source: Standard & Poor's 4Q08 Leveraged Buyout Review

Credit Products Issued With Borrower Friendly Terms

Covenant Lite Loans By Volume and Number From 1997 - 1Q 2009



Source: Standard & Poor’s

Loan Market Share: Banks vs. Non-Banks

Primary Market for Highly Leveraged Loans



  • Non-banks include: institutional investors, insurance companies, finance companies and securities firms

Excludes all left and right agent commitments (including administrative, syndication and documentation agent as well as arranger)

For 2Q08, All Deals includes block sales like TXU while New Deals include only deals launched and structured this year

New Funding Sources Emerge – Leveraged Buyouts

  • New sources arose with the flood of money entering the system and funneled funds to private equity and other users.

New Funding Sources Emerge – Other Assets

  • Other sectors of the economy also benefited from new funding sources.

  • Funding Intermediaries created a variety of exotic instruments.

Other Asset Classes

  • Industry

  • Mortgages

  • Consumer

  • Corporate

  • Municipalities

  • Financial Product Innovation:

  • Home Equity Loans

  • (Option) Adjustable Rate Mortgages

  • Interest Only Mortgages

  • Structured Investment Vehicles (SIV)

  • Variable Rate Demand Notes (VRDN)

  • Credit Cards

  • Student Loans

  • Auto Loans

  • Asset Backed Securities

    • CLOs, CDOs, CBOs

  • Credit Linked Notes

  • Credit Default Swaps & Baskets

  • Credit Enhancements

  • Constant Proportion Debt Obligation

  • (Preferred) Auction Rate Securities

  • Tender Option Bonds

Improved Credit Terms Resulted

Percent of Institutional Tranches Priced Inside of L+300 bp for deals rated BB- or higher

Source: Standard & Poor‘s

And Purchase Price Multiples Increased - LBOs

  • Higher risk tolerance was a function of lower returns.

  • Seeking higher yields, investors sought out riskier securities. Competition led to pricing at historical lows, looser covenants, relaxed terms and support for higher leverage multiples.

  • A fundamental flaw was that acquisitions were priced assuming continued economic growth or stability.













Source: Standard & Poor's 4Q08 Leveraged Buyout Review

Where Else Did Asset Prices Increase? - Commodities

17 Components: Includes Livestock, Agriculture, Energy and Metals

The Bubble Bursts

Inflation Adjusted US House Price Index and Stock Prices, 2003-2009

Source: Case-Shiller; Dow Jones, Keefe, Bruyette & Woods. All indices inflation adjusted by the CPL

Rising Payment Default Rates Are Beginning

Percent of Outstanding Leveraged Loans in Payment Default or Bankruptcy

  • Includes all loans including those not included in the LSTA/LPC mark-to-market service.

  • Vast majority are institutional tranches.

Source: Standard & Poor’s LCD and S&P/LSTA Leveraged Loan Index

Earnings Pressures Lead to Exercised PIKs

  • Switching on a PIK toggle helps a company buy breathing room and preserve its cash until its financial situation improves.

  • PIK toggles — much like covenant-lite loans — still don’t address fundamental problems that a company faces.

    • While they buy breathing room, bankruptcy is still a possibility.


62% decline in equity value


What Happens to Height of Market Valuations?

  • If 2009 valuations drop to average levels from 1998-2005 (7.1x EBITDA), it translates to a destruction of 62% for Equity assuming constant debt levels.

    • This drop in value is prior to any decline in EBITDA levels.

Is There An End In Sight?

  • Forced sales of defaulted ABS vehicles flooded the secondary market.

    • Secondary prices dropped dramatically, with bids at the end of January at 70 for actively traded names and 64 for leveraged middle market, lightly traded accounts.

  • Secondary market trends create a challenge for new issue pricing due to relative value analysis.

Monthly Bid Prices by Market Size

Equity Buyout Example

Leveraged Buyout

Equity Buyout

$100 Million

$100 Million


$860 Million






$645 Million








Equity Buyout Example

Leveraged Buyout

Equity Buyout

$100 Million

$100 Million




10% Annually

10% Annually



Year 4: Special 1-Time Dividend

(4x EBITDA, paid via debt-issuance)

Year 5

$161 Million

$161 Million


Leveraged Buyout

Equity Buyout

$1.1 Billion

$1.1 Billion



Year 5






~17.5% IRR

~17.5% IRR

Predicting The Future – Intermediate Term

  • Deal Flow:

    • Deal flow will return to historical returns, but remain low given economic uncertainty.

    • Funds that depended on financial engineering to drive returns will be distracted by tripped covenants, liquidity challenges and potential brand damage for future fund raises.

  • Holding Period:

    • Given the lackluster IPO market, Strategics’ focus on current operations and most Sponsors frozen given the credit markets, exit opportunities will be minimal.

    • Quick flips will fade as historical hold periods of 5+ years return.

  • Sponsor Returns:

    • Funds that fully invested 2006-2008 may not be able to return capital to investors.

    • Funds not fully invested may be able to average down their portfolio’s average purchase price and improve returns going forward

What Is The New Normal For Lendors?

  • Multiples:

    • 2.5x EBITDA is the norm for senior multiples (maybe 3x for pristine operating profiles).

    • 3.5-4.0x for total leverage (mezzanine, subordinated debt) vs. 2007’s 6x

    • In 2009, leverage multiples for a stable, recession-resistant, cash flow transaction are expected to be no greater than 2.50x senior and up to 3.75x total (+/- 0.25x).

  • Debt Pricing:

    • Senior debt is more expensive at L+650 to L+700

    • Including Libor floors of 2-3% and upfront fees of 3%, all-in pricing approaches 11.5-13%.

  • Impact on Transaction Pricing?

    • 40% equity translates to 5.8-6.6x EBITDA purchase multiples vs. 8.3-9.3x for 2008 & 2007.

What Is The New Normal For Equity Sponsors?


  • Company Differentiation (Pre-LOI):

    • What is the company’s reason to exist?

    • Unique product lines, customer relationships, etc.

  • Heightened Due Diligence:

    • More information requested and in greater granularity

    • Deeper understanding of company attributes

    • Longer periods to close post-LOI.

      • Has EBITDA stabilized?

      • Was that new customer account signed?

  • Impact on Transaction Pricing?

  • More Expensive Debt

  • + Higher Equity Contributions

  • + Heightened Economic Uncertainty

  • Lower Purchase Multiples

  • What Is The New Normal For Equity Sponsors?



    • More Intense Focus on Portfolio Companies:

      • Expect greater involvement by equity sponsors on a weekly (if not daily) basis.

      • Be ready to defend proposed investments.

        • What is the ROI on the investment? Is it possible to accelerate the payback of the investment? Is the investment nice to have or a must have?

    • More accountability of senior management teams

    • Are current investments in HR and Capital appropriate given current business levels?

  • Strategic Initiatives

    • Does it make sense to acquire / merge?

    • Divestitures of non-core operations

    • Heightened scrutiny of non-income producing investments

  • Questions?

    Compass Group Management