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A watershed year for
private equity
The industry could be an engine of growth in the ‘great recovery.’
Selwyn Parker speaks to Kirk Radke, a partner at Kirkland & Ellis LLP
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World Finance | Mar - Apr 2011
[Kirkland’s] private equity practice is
routinely ranked number one in America.
Indeed partner Jack Levin is known as the
“father of private equity law”
P rivate equity in the US and else-
where faces a turnaround as it recovers from
what many predicted would be a near-death
experience in the wake of the global financial
losers, the houses that came through the fires
and the ones that got burned. I believe we’ll see
the emergence of three stratifications of firms
– the truly international ones, the middle-tier
crisis. The coming funding rounds in the US, ones that focus on a country or region, and the
Europe and elsewhere as houses pursue invest- smaller ones.”
ment capital from the banks and other capital Deal activity is already clearly on the boil.
sources will make a profound statement about Among numerous other deals in the pipeline,
the medium-term future of private equity, pre- PAI Partners has put up for sale its €1-1.3bn
dict industry players. half-share in Yoplait, the French fresh-milk gi-
Among other things the capital raisings will ant (at least a dozen suitors are lining up includ-
shed a much-awaited light on: ing Nestlé), and Apax Partners has put $3.89bn
» Those firms that emerged in the best shape in cash on the table to buy Smiths Medical.
from the recession; Yet while big questions will be asked and an-
» How the crisis has reshaped the industry, swered during 2011, Mr Radke is in no doubt
particularly in terms of the banking industry’s about the general health of the private equity
new norms of leverage, governments’ continu- industry. As far as he’s concerned, its business
ing revision of pre-2008 corporate tax rules, model, which had become increasingly contro-
some target companies’ distrust of buy-outs versial before the crisis hit in late 2008, weath-
and tougher loan documents; ered the storm so well that it proved itself to the
» Willingness of the big banks to fund buy- many doubters and is all the more robust and
out firms as they face globally mandated higher credible for it.
levels of capital under the Basel III rules, much “The private-equity structure permitted
closer scrutiny by regulators, and uncertainty companies to work their way through a cycle
about future sources of revenue because of the of recession. Firms worked closely with com-
“too big to fail” debate; panies to save jobs. Franchises were not de-
» The strength of the buy-side market, both stroyed. And the industry has come out of it
primary and secondary, as companies are put all in a very strong position,” he summarises.
on the auction block. “We saw true added value, not just financial en-
gineering. Private equity’s model of corporate
Taking everything together, it’s been a long time governance has been strongly validated.”
since the industry faced as many questions as it That also happens to be the view of buy-out
will throughout 2011. professionals in the USA. According to a survey
As Kirk Radke, senior partner in global law early in the new year, more than two thirds of
firm Kirkland & Ellis, a specialist in Ameri- respondents say the valuations of their portfo-
can and international private equity law, and lio companies have risen in the last year, which
“If you need to declare veteran observer of the industry, points out: augurs well for prices in 2011.
war on someone, he’s “The round of fund raisings will be fascinat- Kirk Radke can fairly lay claim to having an
your man.” The 2010
Chambers directory ing to watch because we’ve had so little in the inside view of the private equity industry. He’s a
of America’s Leading last few years. The $15bn raised by Blackstone columnist, lawyer and deal-facilitator who sits
Lawyers for Business
lauds Kirk Radke’s was an anomaly. These capital raisings will around the table during transactions and is of-
meticulous approach establish the pecking order – the winners and ten called in to deal with particularly challeng-
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World Finance | Mar - Apr 2011
ing legal issues, both in America and abroad. starved environment, much of the private-equity As a result, he predicts a more competitive
Indeed last year’s Chambers USA described him community concentrated on working on their market than we’ve seen in the last two years:
as “ahead of the pack when it comes to private portfolio companies and, as the industry says, “It will probably be challenging to buy com-
equity” in its listing of America’s leading law- “sweating the capital” already employed in those panies because the market will be stronger. But
yers for business. businesses. The primary mission was simple: the I do see a very strong buy-side in America.”
His firm, 101 year-old Kirkland & Ellis, is companies had to survive. After all, as Mr Radke
the 11th largest law firm in the world measured observes, “a significant amount of their own and FuTure oF leverage
by revenue. Its clients in commercial litigation other people’s capital was at risk.” In early post-mortems on the crisis, private eq-
include some of the jewels of the Fortune In- Also at risk were their reputations. The uity was singled out for blame because of the
ternational 500, such as Samsung Electronics, firms knew that when the curtain did eventu- high levels of leverage commonly employed in
Siemens AG, General Motors and BP (which ally rise and credit became plentiful once again, buy-outs that ran into trouble. For instance, in
it is defending in the wake of the Deepwater it would be those houses that managed their the dark days the residual value of UK-based
Horizon disaster). And past partners include portfolio companies best that would be the Candover group’s 10 biggest investments in-
some of the finest legal minds in recent US preferred borrowers in the new environment cluding energy firm Expro International fell by
history, such as Supreme Court nominee Rob- as well as the preferred firms for new investor 13 percent in the first six months amid doubts
ert Bork, former solicitor-general Kenneth commitments. by investors about its ability to raise cash. And
Starr and current partner and former White And contrary to the predictions of many Apax Partners had to refinance £1.5bn in debt in
House policy adviser Jay Lefkowitz. critics who regarded leverage as a dirty word, Travelex, contributing to a doubling of losses.
As for the firm’s pri- However, regulators
vate equity practice, it’s largely exonerated the
routinely ranked number industry from contribut-
one in America. Indeed “I don’t see any material effect on the ing significantly, if at all,
partner Jack Levin is to the general mayhem
known as the “father of industry from Dodd-Frank” in the financial industry
private equity law”. at large. As a result, pri-
vate equity has largely
Two hard years escaped the regulatory
The prospects for private equity certainly didn’t debt capital helped save many a company be- net now being thrown over the mainstream
look rosy in 2009. When the curtain came down cause the free cash got them through the crisis. banking industry. For instance the Dodd-Frank
on the long boom fuelled by low-cost debt – a “It was leverage that permitted many portfolio laws, blueprint for the overhaul of the banking
period known as the “great moderation,” credit companies to survive in 2009,” explains Mr industry, did not set out to rein in private eq-
dried up overnight and the doomsayers greatly Radke. “The loan capital acted as a stimulus.” uity in the same way that it did for Wall Street.
outnumbered the optimists. Indeed, many of Similarly, much-derided easy terms of credit “I don’t see any material effect on the industry
the pessimists were in the industry. According in the form, for example, of covenant-lite docu- from Dodd-Frank,” summarises Mr Radke.
to a late-2009 survey by KPMG, no less than ments written in the boom days also helped keep Similarly, he expects private equity will take
58 percent of professionals did not expect de- otherwise stricken companies alive. Because they in its stride the additional transparency required
mand for IPOs to recover by 2011 “at the earli- gave much greater flexibility to private-equity by the Securities and Exchange Commission
est.” borrowers in terms of penalties and repayment – “the extra disclosures won’t be a burden.”
But that was then. The doomsayers were schedules, the less rigorous fine print threw a Another much-watched issue in the forth-
surprised – and so, perhaps, were some pri- lifeline to hard-hit businesses. coming fund-raisings will be what level of debt-
vate-equity firms – at how quickly the indus- to-equity ratios the funding sources will settle
try adapted in almost Darwinian fashion to Cash in hand on. For the meantime, notes Mr Radke, “the
the downturn. As the credit in hedge funds ran As America recovers from its own recession, it finance market seems very strong and could
out and clients exercised their right of redemp- looks very much as though private equity will strengthen during the year.”
tion and withdrew funds in droves, the most serve as one of the main engines of economic In turn that augurs well for higher ratios
nimble-footed firms dusted off their manage- growth. “The US will continue to be a very than those that prevailed in the last two years.
ment skills. strong territory for the sale of portfolio com- “I believe levels will revert to pre-2008 num-
“This is what I often emphasise about the panies,” predicts Mr Radke, citing the number bers,” suggests Mr Radke. “I don’t see a new
very nature of the private equity market over of cashed-up houses sitting eagerly on the side- normal of leverage because of the crisis.”
the last four years,” Mr Radke notes: “It’s a lines, itching to jump back into the markets.
market that changes quickly and dramatically. “There’s a number of strategic players with Money good
Indeed the rate of change is quite remarkable, very significant investment funds on the bal- The American private-equity model has sur-
and the industry has changed with it.” ance sheet. Even if they make a modest entry vived the crisis more or less intact, but with
Instead of bemoaning the post-2008 credit- into the market, they will push up prices.” some important changes. Take, for example, the
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World Finance | Mar - Apr 2011
Big questions will be break-up value at a ratio of 1.5-2 times. “And
it’s a very painful thing for anyone to have to
asked and answered write that cheque,” adds Mr Radke.
during 2011 While this updated model will be put to the
test in coming months as the private equity
market gets busier, Mr Radke believes it’s ro-
bust enough to do the job. As he summarises:
“The market has adopted a model that address-
es risk, enables the completion of transactions,
addresses the problems of 2008 and deals with
differences in the UK model.”
once-burning debate about those deals that fell
through between announcement and execution. global ouTlook
At the height of the boom, numerous transac- There’s no doubt that private equity is on the
tions were not closed because lenders pulled move, hurtling across regions and borders,
the rug before closing, citing among other adapting almost effortlessly as it goes. Not all
items a deterioration in a target company’s per- deals involve billions of dollars – indeed far
formance and its reduced viability. Left in the from it – but the ultimate results are significant
lurch when this happened, some private-equity in their own way. For instance, in Brazil the
houses and target advisors campaigned for the Stratus Investment group recently bought into
introduction of the UK’s ‘certain funds’ model domestic recycling business Unnafibras and is
that effectively guaranteed the deal would go working with management towards an IPO in
through because the availability of the debt three to five years time. By then, through acqui-
capital was not in doubt. sitions and investments, the Brazilian company
As Mr Radke recalls: “It was an open ques- will be significantly bigger than it is now.
tion in the US on how boards, PE firms and Thus Stratus is deploying capital and ex-
banks would address that funding risk. The pertise to grow Unnafibras in exactly the same
‘certain funds’ model could have been imported way that, as Mr Radke outlined, the industry
from Britain but it wasn’t. Instead, the Ameri- did in the last two challenging years. That is, by
can industry has evolved to a model that shares working hard on portfolio companies.
the risk and facilitates the transaction.” “It’s very exciting to see the legal system in
Essentially, the American response is a different jurisdictions adopt private equity,”
streamlined version of the pre-crisis model and enthuses Mr Radke. “It’s like what happened
involves several distinct steps. First, the private in Europe in the 90s. It’s a very gratifying time
The 101 year old firm equity house makes a formal acknowledgement for a lawyer specialising in private equity.” (A
Kirkland & Ellis counts a
number of high profile
that if the bank is willing to fund the purchase of far-flung firm, Kirkland & Ellis has offices in
international companies the target company, and the other conditions of London, Germany and Asia-Pacific as well as
among its commercial the transaction have been met, then the private in its home base in the US.)
litigation clients
equity firm will fund its equity commitments. But far from particularly US-style or other
This is ‘money good’ and equates approximate- forms of private equity migrating more or less
ly to ‘certain funds’ in this scenario. unchanged as it becomes more international,
As such, explains Mr Radke, “it makes a the industry is changing in subtle ways when
very powerful statement to the target board.” it crosses borders. This process of adaptation
Second – and the main difference today – is clearly delights Mr Radke who revels in the le-
that a firm has to suffer a quite serious setback gal and corporate diversity that he witnesses as
under “material adverse” clauses before the he travels around the world.
bank can pull the rug. “I don’t see a US, Europe or any other blend
Third, a shorter period between the signing of intellectual property in international private
and closing of the deal acts against the com- equity,” he explains. “It’s become a model of
pany running into the kind of trouble that may corporate governance which is translatable in
give a lender a reason to walk away. various forms into doing good business around
Finally, if the bank withdraws without suffi- the world and that includes emerging markets.”
cient reason, the target company must be reim- Indeed, the next day he was on a plane to
bursed through a compensation fee based on its Asia to feel the pulse of private equity there.
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World Finance | Mar - Apr 2011
