Financing the deal

Notwithstanding the PR from banks, lending terms for acquisitions remain onerous. James Harris finds out how deals are getting pushed through in a new era for M&A

Notwithstanding the PR from banks, lending terms for acquisitions remain onerous. James Harris finds out how deals are getting pushed through in a new era for M&A

Notwithstanding the PR from banks, lending terms for acquisitions remain onerous. James Harris finds out how deals are getting pushed through in a new era for M&A

Earlier this year gambling concern PartyGaming acquired internet bingo business Cashcade for £95.9 million and World Poker Tour for $15.3 million (£9.1 million). Both deals were financed out of existing cash resources.
Nigel Birrell, director of M&A at PartyGaming, explains, ‘Negotiating bank facilities adds another layer of complexity to a deal. We have cash on our books and we can come straight to a deal with no contingencies. Vendors are nervous in this environment so it is to our advantage we can move swiftly.’

Birrell says that valuations were kept to a reasonable level: ‘I think many online gaming businesses were changing hands in 2007 and 2008 for double-digit multiples of EBITDA [earnings before interest, tax, depreciation and amortisation]. We’re at a point now where people are paying fair prices for wonderful companies, rather than wonderful prices for fair companies.’ There were several companies bidding for Cashcade, according to Birrell, but the company was sold for a multiple of 5.9 times EBITDA, which he saw as ‘a very fair price’.

Jeremy Waud, CEO of facilities management company Incentive FM, initially opted for bank financing in a bid to acquire independent contract cleaning business QAS. ‘The banks were not helpful to say the least,’ he says.
Incentive FM attempted to finance the deal using a mixture of cash, equity and deferred compensation. After Waud’s discussions with one bank came to nothing, he met with RBS and it agreed to release funds for the deal. Unfortunately, the terms were not favourable.

According to Waud, RBS reserved the right to prevent Incentive FM from making any payments to suppliers or even earn-out payments to the vendor in order to protect its investment. Waud claims: ‘It would have blocked the right of the vendor to receive money to which it was contractually obliged, even if the company itself had the money to pay it.’

Crucially, Incentive FM also struggled to persuade the bank to lend enough to make the deal feasible. Waud points out that it was only after the Enterprise Finance Guarantee Scheme was introduced in January, allowing the government effectively to underwrite the deal, that the amount was increased. ‘Even then it was still half a million lighter than where we wanted to be,’ observes Waud.

Going it alone

The decision was made to ditch bank financing. A deal was agreed on different terms, whereby the vendors accepted less money upfront, took a larger slice of equity and deferred a bigger consideration until a later stage. Waud says: ‘We managed to get the private company that we identified for the agreed price. We didn’t borrow any money; we managed to do the deal without the bank at all.’

Going forward, Mark Warham, co-head of M&A at Barclays Capital, sees equity as the main currency if acquisitions are to be made. The advantages are twofold: ‘You don’t need to find someone to lend you the money, and it avoids the problem of precise, absolute valuations because when you’re dealing with paper, you’re more concerned with relative valuations and in times of market volatility, that’s important.’

Bad debt

According to Andrew Hayden, managing partner of private equity firm Sovereign Capital, the cost of lending isn’t going to decrease for some time. He says, ‘Bank arrangement fees are typically 4 per cent [of the total amount lent] now; historically they might have been between 0.5 and 1 per cent, but never above 2 per cent. Banks are short of capital so I don’t see that changing.’

The stance of the banks continues to put pressure on many private equity firms. Warham says: ‘In the 2007 M&A boom, there were some mega-deals, but huge swathes of the mid-market deals that buoyed the boom were private equity-led.’

As highly geared structures fall by the wayside, the rules have changed for private equity practitioners. Says Warham: ‘The game has moved on, favouring private equity firms with operational teams who can add value by working closely alongside portfolio companies.’

The new deal

It is perhaps no bad thing that making an acquisition is no longer as straightforward as going to your bank. That simply won’t be a viable option in 2010 when risk analysis is now the order of the day.

At Incentive FM, the company generated revenue of £14 million and pre-tax profits of £250,000 for the year to March. Waud claims that the banks he spoke to focused on some bad debt the business had in 2007, which resulted in a hefty but one-off loss for the company. He explains: ‘Banks worry about balance sheets rather than cash. In other words, they look at the past instead of the present, which I find peculiar. I spent a lot of money with their appointed due diligence accountants, who crawled all over the company for months, only to offer us credit with very bad terms. It was all stick and no carrot.’

That approach won’t be changing any time soon.

Nick Britton

Nick Britton

Nick was the Managing Editor for when it was owned by Vitesse Media, before moving on to become Head of Investment Group and Editor at What Investment and thence to Head of Intermediary...

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