- In the past year or so, LBO minefields started to appear in the “safe and sound” investment-grade credit landscape filled with A and AA-rated names.
- About 27% of the A-rated corporate index may be buyout targets.
- The LBO of Sallie Mae brings takeover risk to the “safe haven” financial sector.
- All of the remaining independent finance names may be LBO targets.
- By sharing our screening process with our investors, we hope to communicate sensible credit management by separating fact from fiction and prudence from panic.
Tales of leveraged buyout (LBO) deals, often fascinating and occasionally outrageous, never used to mean much to cash investors. LBO candidates used to be smaller, junk-rated bond issuers that did not make the approved lists of most risk-averse investors. In the past year or so, minefields started to appear in the “safe and sound” investment-grade credit landscape with not only BBB, but also A and AA-rated names being regarded as potential LBO targets. With a recent deal involving student loan lender Sallie Mae, the risk also spilled over to the traditional “safe haven” financial sectors.
LBOs are hazardous to bond investors since private equity firms often take over targets using one-third cash and two-thirds debt. The much higher debt leverage and higher interest paid on the new debt almost always pushes the target company’s credit ratings into below investment-grade, or “junk” status. The value of the outstanding bonds often drops precipitously at the announcement of a leveraged transaction.
In this study, we will discuss some of the common screening criteria in finding which A and AA-rated corporate issuers may fall prey to private equity firms. Based on these criteria, we also produced two lists, one financial and one non-financial, of likely candidates from which investors can conduct research and apply their own judgment.
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