Cheap credit fuels £23bn boom as private equity feasts on UK plc

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The Independent Online

Private equity groups will have splashed out £23bn on UK companies by the end of 2005, the highest level for five years, according to a new survey.

There was also a record high of 21 "mega deals" - worth more than £250m each. These accounted for over half the total spending spree.

In October, venture capitalists Candover, Cinven and Permira created the UK's largest private equity group, worth £4.2bn, when they bought bookmaker Coral Eurobet, owned by a rival group, and merged it with their casino and bingo operator Gala.

But Tom Lamb, co-head of Barclays Private Equity, itself the co-founder of market research group CMBOR, which produced the report, warned that ever higher levels of debt were financing the deals. He said some retailers owned by private equity groups could be vulnerable if there is a severe economic downturn.

A year ago, to finance a deal, private equity groups might have borrowed an average of seven times the annual turnover of the company they wanted to buy. This represented an increase from the traditional leverage level of five times a company's turnover. And the figure has now risen again to an average leverage of eight times, said Mr Lamb.

In leveraged buyouts, the company being taken over must repay the debt from its profits over a number of years. Usually, newly acquired companies have repayment holidays lasting one or two years before they have to start paying back the capital on the loan.

"The issues come if there is an economic downturn, particularly for retailers which are notoriously highly geared," said Mr Lamb. "They run into problems if operating profits fall. The plans assume profits grow."

But he added that the number of private equity receiverships has fallen this year and that "conditions are relatively benign".

He explained that private equity groups were able to spend so heavily because of the availability of cheap credit. "The leveraged buyout market has had a very good run. Default rates have been low," he said. "Hedge funds are loaded with money and are looking for somewhere to put it. There is also a lot of private equity out there looking to deploy funds."

The pattern of private equity buyouts is changing, the survey also revealed. More than two-thirds of the buyouts this year have been of publicly quoted companies being taken private, or of one private equity group selling a business to another.

The healthcare sector saw the most action this year, with the value of deals totalling £4.5bn, three times last year's buyout total. Some of the UK's best-known brands are in the hands of private equity groups. Children's favourite Little Chef, the roadside diner chain, was sold by Travelodge, which is owned by Permira, for £52m in October.

The allure of the private equity sector, which pays more to executives than the rate in publicly quoted groups, was underlined last week by news that Tony Blair's "blue-skies thinker", Lord Birt, is joining Guy Hands' buyout fund Terra Firma as an adviser.

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