To what extent do companies and Private Equity funds benefit from LBO operations considering the impact of the Covid-19 health crisis?

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To what extent do companies and Private Equity funds benefit from LBO operations considering the impact of the Covid-19 health crisis?

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Themes

Private Equity funds, covid-19, stakeholders, ethics, LBO Leveraged BuyOut, tax shield, value creation, capital structure, risk, regulation, crisis

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Abstract

This dissertation aims to understand how companies and Private Equity funds can benefit from LBO operations while this mechanism is considered risky. On the one hand, the literature review will bring an academic view to, first, understand the potential benefits of LBO operations, then consider the risks associated with these operations that can lead to insolvency or bankruptcy, and finally understand how the LBO market has changed to overcome crises such as the Covid-19 pandemic and overperform in the market. This literature review will be completed with an analytical study considering three main hypotheses on the LBO mechanism for the period ranging between 2007 and 2022. A data analysis of LBO operations in the US and Europe will measure value creation for companies and bring information depending on factors such as the financial structure, the investor's geography or the company's industry. The economic context and the Covid-19 crisis period will also be considered to analyse the data and provide conclusions. This analytical study will be completed with a methodology description, graphs, a presentation of results and conclusions on the hypothesis for the LBO operations between 2007 and 2022.

Litterature review
1. Companies and Private Equity funds benefit from LBO operations
2. LBO operations remain risky for the stakeholders
3. Impacts of the Covid-19 crisis on LBO operations
Analytical study
1. Hypothesis
2. Methodology
3. Data analysis
4. Conclusions

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[...] Yet, these results do not apply for companies under LBO with non-public information and remain quite balanced. The study contributes to bringing a nuanced view on LBOs outcomes on debt reduction and operating performance increase post-LBO. In Does going private add value through operating improvements? by Brian Ayash (2016), the author provides some explanation on the limited operational benefit of LBOs. He states that adjustments on the financial data post-LBO may lead to inexact and improved financial data due to the accounting method used that provides an improved view on the company. [...]

[...] The spread is the interest rate paid by the Private Equity fund to finance the LBO operation with debt, considering the risk of the operation. The spread is expressed in basis points and depends on the economic context as well as the company's debt profile. In addition, the interest rate (LIBOR, EURIBOR or SOFR mainly) is a reference rate added to the spread. It represents the compensation for using the lenders' financing. The interest rate depends on the economic context and the decisions implemented by the central banks. [...]

[...] The analysis was realized in the European market, considering the average percentage of debt and equity for LBOs in Europe for each year, and comparing it to the percentage of investors outside Europe. Data was collected from the Investment Council and Dealogic, and presented on the following graph: The financing of LBO has been made with a mix of equity and debt which share has been evolving through the years. In 2017, the debt represented on average 65% of the LBO financing, and it only represented 20% in 2020. [...]

[...] This measure allowed leveraged companies to access debt financing and pursue their activity among the crisis. Also, the Central Bank gave more flexibility to governments for their intervention in the national economy through programs implementation, ease in funding through the PGE or companies recapitalization. According to the author, the amount reached ?20 billion to manage the economic and financial risks of a generalized crisis. Adaptation and new opportunities Yet, among the risks for both companies sunder LBO and economies more generally, the Covid-19 also brought new opportunities for entities that were able to adapt their business. [...]

[...] The third sub-hypothesis tackled the existence of a relationship between the company's shareholding and the EBITDA multiples, considering that public companies benefitted from higher exit multiples. The data analysis challenged assumptions regarding public and private companies' attractiveness. Contrary to the sub-hypothesis, data analysis has evidenced the fact that private companies consistently obtained higher EBITDA multiples from 2012 to 2022. Private Equity funds are more inclined towards private companies due to the growth opportunity and high returns expected for these companies. Conclusion In summary, LBO operations started representing important volumes in the US market in 1960s, and became since an important mechanism in companies' strategies. [...]

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