Phadia sale to deepen concerns over private equity debt

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The Independent Online

An impending £1bn-plus sale of the world's biggest allergy testing company looks certain to further fuel concerns that the private equity industry is prepared to heap ever-greater debt on companies in its pursuit of higher returns.

Phadia, known until April as Pharmacia Diagnostics, has been put up for sale by its private equity owners, PPM Capital, an arm of the British insurer Prudential, and Triton.

Prospective buyers - likely to include the private equity groups Apax Partners, Permira, Cinven, Candover and Charterhouse - should receive the company's books within a fortnight.

Private equity groups borrow the lion's share of the amount they spend on acquisitions, on which they pay interest, and put in only a relatively small amount of their own money, or "equity".

UBS, the Swiss investment bank hired to handle the auction, has already carried out a search to find the lender prepared to provide the greatest debt to prospective buyers.

A number, believed to count among them Royal Bank of Scotland, have indicated they would lend as much as an eye-watering eight times Phadia's annual earnings, about £650m.

That compares with estimated borrowings by PPM and Triton of only 4.5 to 5 times Phadia's earnings when they assumed control in 2004.

The bigger the debt, the higher the likely final sale price and the greater the interest payable to lenders, but the steeper the risk assumed by the company.

Initially Phadia had been expected to fetch only about £700m. However, the surprisingly generous "staple debt" package (so called because these details used to be stapled to the back of financial information about the company for sale sent to potential buyers) means Phadia is now likely to change hands for more than £1bn. With the cost of long-term borrowing creeping higher, there are those who question the wisdom of the private equity industry's readiness to saddle companies with so much debt and of those lenders prepared to make that possible.

One private equity banker familiar with the deal said: "This is clear evidence that private equity is prepared to heap ever more debt on businesses to ensure higher returns.

"It [the debt] is a very big number. If there is too much debt on a business it can go bust because its interest payments are so huge.

"The question has to be: when the merry-go-round stops, how many decent businesses will have been damaged by private equity?"

A sale of Phadia on these terms will also deliver further ammunition to those who argue that as the private equity industry matures it is being forced to adopt increasingly extreme financial structures to ensure high returns from the assets it swallows.

"Most of the reason PPM will make a better return is because it is selling the business at a higher Ebitda," another banker familiar with the sale said. "It is not really a question of having generated great wealth or earnings."

Phadia is based in Sweden and has offices in 19 countries around the world, including here.

It is a specialist in the development of systems to test blood for allergies. Phadia also makes tests for diabetes, asthma, rheumatoid arthritis and other auto-immune diseases.

Originally a part of the Swedish pharmaceuticals group Pharmacia, the diagnostics company was founded in 1967 by three scientists.

The parent went through several changes of ownership, leading to a takeover by Pfizer in 2003. The American drugs giant then instigated a programme to sell Pharmacia's non-core businesses.

PPM and Triton led a $575m (£306m) management buyout of Pharmacia Diagnostics, headed by chief executive Magnus Lundberg, in 2004. A year later, they refinanced the business.

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