The Buyout Binge

Private-equity firms are gobbling up everything in sight. How long can it last?

Seated on the stage of the Empire State Ballroom in New York’s Grand Hyatt Hotel, Bill Conway talked of missed opportunities. A featured speaker at January’s Private Equity Analyst Outlook Conference, the cofounder and managing director of The Carlyle Group told the assembled bankers and private-equity partners that he wished he’d done more. “We should have done every single deal, everywhere in the world,” lamented Conway. “Every deal worked.”

Although it may sound as if Conway were channeling Gordon Gekko, he was hardly exaggerating: nearly every Carlyle deal in recent years has worked. The private-equity firm’s recent purchases of Hertz, Dunkin’ Brands, and other companies have outperformed all but the most optimistic projections. What’s more, Carlyle isn’t the only one with the Midas touch. Private-equity firms are enjoying a success that eclipses that of the Michael Milken era of the 1980s, when leveraged buyouts (LBOs) came into vogue. Through the first three quarters of 2006, private-equity funds yielded an average 12-month return of 23.6 percent, versus 9.7 percent for the S&P 500, according to Thomson Financial. Over the past three years, buyout firms have averaged a 15.6 percent return, compared with 9.9 percent for the index.

As private-equity funds have consistently beaten the markets, money has poured in by the billions. In 2007, according to industry professionals, U.S. private-equity firms could raise well more than last year’s record $215 billion. Among the biggest firms, Kohlberg Kravis Roberts (KKR) recently closed a $16 billion fund, Goldman Sachs Capital Partners is rumored to be raising a $19 billion fund, and The Blackstone Group is said to be building a stockpile of more than $20 billion. Currently, by some estimates, private-equity firms are collectively sitting on a $400 billion war chest.

Combine that cash with leverage, and private equity’s buying power increases four- or fivefold. So while 2006 was a banner year for private equity — more than 27 percent of all acquisitions were made by financial buyers, according to investment-banking specialist Dealogic — 2007 and 2008 promise to be even bigger in terms of deal volume.

Meanwhile, the private-equity phenomenon has caught the attention of CFOs, many of whom yearn for freedom from the pressures of earnings calls and audit committees — not to mention more pay. So far this year, the finance chiefs at AOL, Circuit City, and H.B. Fuller have left to join private-equity firms or companies owned by them. When Alvaro De Molina left Bank of America as CFO at the end of 2006, he told reporters that he wanted to go to a private-equity firm.

It may seem as though the private-equity party could go on indefinitely, but some observers are wondering if the boom has already peaked. “The most money always comes in at the end of the cycle, when the big returns have already been achieved,” says Bruce Evans, a managing partner in the Boston office of private-equity firm Summit Partners. Others think private-equity firms are destined to overreach, emboldened by their financial strength to strike increasingly dubious deals.


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