With buyouts at a virtual standstill, private equity firms are finding a new place to put their billions of dollars: investing in public companies that have been pummeled by the COVID-19 economic collapse.
The technique is a throwback to the 2008 financial crisis when, in one notable deal, Warren Buffett threw a $5 billion lifeline to Goldman Sachs Group Inc. This time around, it's gotten so popular that the bidding for slices of distressed companies can resemble a heated takeover battle, with as many as 20 private equity firms clamoring for a piece of one deal.
The fever underscores the huge amount of money buyout shops are sitting on — some $1.5 trillion, compared to $615 billion a decade ago — and the dwindling number of traditional buyouts available. The firms are betting that struggling companies such as Cheesecake Factory Inc. and Expedia Group Inc. will recover once the economy opens up.
Yet the competition for the deals has forced some firms to lower their typically high sights. Nowadays, they are shooting for an internal rate of return in the midteens to low 20%, down from 30% to 40% before March, according to estimates by dealmakers.
"There's so much committed capital trying to find investment opportunities, the processes are highly competitive and terms are reflective of that," Leo Greenberg, an attorney at Kirkland & Ellis, said.
Since late March, companies have raised about $8 billion from buyout shops in negotiated deals known as a PIPE — private investment in public equity. While buyout shops are typically in business to buy companies outright, these deals instead get them fat dividends and eventually an equity stake.
For struggling companies, PIPE financing still isn't cheap. But with their stocks depressed, they may have little choice other than to turn to private money. And at the very least, the competition among buyout shops affords them an opportunity to negotiate terms more favorable than existed before the COVID-19 crisis.