Breakingviews: Private equity needs more money from others

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NEW YORK (August 4): For companies like Blackstone and KKR, equity and debt go together like peanut butter and jelly. The buyout firms are sitting on $1.4 trillion in cash, but to make deals they need leverage to partner them with. There aren’t many places they can find it, at least not in the quantities they might want.

When Steve Schwarzman’s private equity lieutenants at Blackstone, or their peers, want to buy a company, they typically pair a wad of cash provided by their fund investors with debt. This allows them to target larger acquisitions and increase returns for their equity investors and themselves, paying off debt as quickly as possible from the cash flow of the acquired business.

But the syndicated loan market, where bank loans backing private equity deals are broken up and distributed, has slowed sharply. Deals backing highly leveraged mergers and acquisitions totaled $46 billion in the second quarter, down 52% from the same period in 2021, according to Refinitiv. The market slumped as investors grapple with rising interest rates and banks try to offload loans made before the market deteriorates.

Direct lenders — who pool private funds, lend to transactions, and retain those loans — can pick up some of the slack. After growing rapidly, they now regularly support large takeovers. Direct loans are generally more expensive than syndicated loans, but they are faster and can be offered in situations where banks are reluctant to step in.

The catch is that the two debt markets are linked. A borrower can take out a direct loan, pay it off until public investors find it acceptable, and then refinance it in the syndicated market after a few years to get a cheaper interest rate. The direct lender can use this repaid money to immediately fund new transactions. But syndicated refinances for leveraged loans were 41% lower in the first half of 2022 than a year earlier, according to Refinitiv.

Private lenders who have money to invest can thus select the best offers. But those without money may struggle to get more. The amount of private credit financing raised, while similar to a year ago, is a third below its peak at the end of 2021, according to Preqin. Private equity might be ready to put its vast reserves of cash to work. But without sufficient debt, much of this so-called dry powder might have to stay dry.

(The author is a Reuters Breakingviews columnist. The opinions expressed are his own.)

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