Rising rates cast first clouds on merger boom

 

London: The leveraged buyouts that have fuelled record merger activity face a new test as interest rates rise and stock markets wobble, early signs that the debt behind the deals could become costlier and difficult to raise.

Low interest rates around the world have led to an explosion in buyouts by private equity firms such as Kohlberg Kravis Roberts and Blackstone Group in recent years.

They have been able to take on more ambitious deals seemingly by the day, such as the record European buyout of pharmacy chain owner Alliance Boots, as funding costs hit the sweet spot: relatively cheap from a borrower's point of view, but relatively high from a lender's perspective.

 

 

But as hopes of US interest-rate cuts fade with the Fed focused on inflation, government bond yields have surged higher, pushing up funding costs for buyers and making less risky debt a more attractive prospect for bond investors.

The turmoil that sharp move has created forced retailer Edgars Consolidated Stores, bought by Bain Capital in South Africa's largest ever LBO, to pay 125 basis points more than initially planned on one segment of its bond financing and to scrap a fixed-rate bond sale.

So is the LBO rush, which has helped support stock market valuations, drawing to an end?

"We are aware that markets are very toppy, and this can't go on forever," said Guy Eastman, the European investment director for private equity investor SVG Capital. "We are expecting things to get tougher."

But he said he wasn't certain the recent fears of global interest rate hikes would mark the peak of the LBO boom, and said it could just as easily be a geopolitical event as an economic one that turns the market.