26 February 2016

Apollo’s multibillion dollar LBO amid tight debt market

Florida-based ADT provides security products such as fire alarms and closed-circuit television cameras. The company has a customer base of 7 million and employs around 17,000 staff at 200 locations. In 2012, it was spun off from American security system provider Tyco International through an initial public offering and it has since been listed on the New York Stock Exchange.

Last week, Apollo announced its intention to take over ADT through a leveraged buyout (LBO). The private equity giant offered USD 42 per share, representing a 56 per cent premium over the target’s close on 16th February, the last trading day prior to the bid being announced. Goldman Sachs and Bank of America are among the financial advisors assisting with the deal. Inclusive of debt, the acquisition can be valued at a whopping USD 11,943 million, making it the largest private equity LBO announced so far this year, according to Zephyr, the M&A database published by Bureau van Dijk.

Plagued by low commodity prices and concerns over China’s slowing economic growth, investors are increasingly reluctant to purchase risky loans. This increases yields and dries up financing for buyouts, particularly from banks, with one of the most recent examples being KKR’s failure to seek borrowings for the acquisition of Mills Fleet Farm, a hardware store operator. The unsuccessful attempt left the buyer with no choice but to back the offer with its own capital.

Bloomberg noted that faltering demand for risky loans forced banks to lift yields on USD 23,000 million worth of loans in Q4 2015, almost double the previous quarter’s amount. Similarly, economic uncertainty caused investors to withdraw USD 15,000 million from high-yield bond funds in the three months through January 2016, as reported by the Wall Street Journal (WSJ).

Despite the rout, Apollo still managed to secure a financing package worth USD 4,695 million from banking giants including Barclays, Citigroup and Deutsche Bank.  ADT’s chief executive Naren Gursahaney acknowledged that if the deal does go through, a merger between ADT and Protection 1 (another security system company acquired by Apollo last year) will get underway. The prospect of a collaboration between both companies (which Apollo senior partner Marc Becker said would result in combined annual revenue of over USD 4,200 million) could have helped maintain confidence among the debt providers, particularly since some of them had also funded the Protection 1 buyout.

Nevertheless, Apollo is not immune to the effects of the sluggish debt market. The WSJ noted that the leverage portion of the ADT buyout is still lower than usual, as Apollo and its co-investors are expected to fork out about USD 4,500 million to settle part of the consideration. Furthermore, the remainder of the payment will be funded through the issuance of preferred securities to Koch Equity Development’s affiliate, which is a more costly financing option compared to debt.

Meanwhile, ADT has a 40-day period to scout for better offers before proceeding to the final stages with Apollo.  Although the target’s board has given the green light, closing of the acquisition is still subject to shareholders’ approval, as well as US and Canadian antitrust regulations.

However, even after ADT and Protection 1 have merged, their combined market share will not be large enough to cause concerns to regulators, according to Shlomo Rosenbaum of Stifel Nicolaus. Furthermore, after having considered the offer price and ADT’s earnings estimates, Ian Zaffino of Oppenheimer & Company reckoned that the chances of the terms being accepted by stakeholders are high, as reported by the New York Times. It seems that the transaction is edging ever-closer to completion.

© Zephyr