I suppose you have all heard that Billabong Director and President of the Americas Paul Naude has stepped aside from his duties for six weeks to try and pull together a leveraged buyout of Billabong. You can see the Billabong announcement and the conditions under which he is working here at Billabong’s investor web site. It’s the first link under Recent News called Company Update.
To be clear, I have no information that’s not public. However, I thought it might be useful to review just what a leveraged buyout is and how it works. And, I’ve got a couple of questions.
In a leveraged buyout, the buyer (or buyers) purchases the target company by using some of their own money (the equity portion) and borrowing the rest. The loan amount is secured by the assets of the target company.
You might reasonably ask, “How much of the purchase price is equity and how much is debt?” It used to be that you could borrow most of the purchase price, but that was back in the good old days. I’m not close to the leveraged buyout market, but I’m guessing you have to put up more equity now. That’s both because lenders are a bit more cautious then they use to be and because it’s harder in this economy (in general- I can’t speak to the specifics of Billabong) to put together a plausible business model that shows fast revenue growth to be used in paying off the debt.
On the other hand, interest rates have come down to historically low levels even, or maybe I should say especially, for lower rated debt. People seem to be forgetting again that there is an inevitable relationship between risk and return. You may recall that’s what got us into our current economic/financial mess in the first place.
Anyway, the point is that lower interest rates make it easier to make a deal pencil out. Once a leveraged buyout is complete, the new owners have to pay down the debt. They typically try to do that by some combination of asset sales, expense reductions, improved efficiencies and revenue growth.
You remember that Billabong had to sell half of Nixon and then a few months later raise additional equity to address concerns about their balance sheet. By definition, in a leveraged buyout, their balance sheet would deteriorate again as they added the debt used to purchase the company to it. The former owners and banks won’t care, because they will get their cash and be gone. The new owners will understand that they are taking higher risk but hey, that’s the business they are in and their plan will have convinced them that the risk is justified by the potential return.
We also remember, of course, that a couple of potential buyers evaluated Billabong to see if they might be interested in buying it and choose not to. Why? Well, we don’t know specifically but I think it’s fair to say that they didn’t see the risk as justifying the potential return.
One would assume that Paul Naude knows why Bain and TPG pulled out, but on the other hand maybe they had no obligation to explain it to the Billabong Board of Directors.
That doesn’t really matter anyway. When I evaluate a company, as you know, I do my own analysis and don’t pay attention to anybody else’s conclusions. Perhaps after I did that with Billabong I’d:
- See the risks and returns a bit differently than Bain and TPG.
- Think I could get it for a lower price because of the performance of the stock since the October 12th withdrawal of TPG.
- Believe that the transformational strategy had the potential to drop a lot of Australian dollars to the bottom line pretty quickly.
- Be prepared to be more aggressive in selling assets to pay down debt.
- Think that the Australian dollar was going to depreciate a bunch over the next year.
Paul didn’t take this step without thinking it through. His experience with the company, reputation in the industry and, I assume, willingness to be CEO and put up some of his own money, is at least going to get him listened to. His agreement with Billabong keeps him from disclosing any confidential information, so I wonder if he won’t go back to TPG and/or Bain and show them a different vision of reality. They’ve already got the confidential information.
Tags: Billabong, Paul Naude