IFR Top 250 2007: Providing energy
When the US$45bn buyout of TXU was announced in March it seemed to mark the end of all boundaries to getting highly leveraged deals done. Any remaining inhibitions among lenders about financing such deals had apparently disappeared, leaving previously off-limits sectors such as regulated utilities and financial services well within the reach of the buyout shops. Tim Seifert reports.
Since the buyout of TXU was announced in March, more companies in more industries have become LBO targets – the previously off-limits Sallie Mae, for example. And debt commitments have also become much less of a concern for buyout pros on these increasingly large deals. The money, it seems, will be there. However, as a case study, TXU illustrates how much financial – and political – work had to be done to get to this point.
Kohlberg Kravis Roberts, Texas Pacific Group and Goldman Sachs agreed to buy TXU in a take-private transaction valued at US$45bn. Assuming it is completed, the TXU deal will trump the Equity Office Properties' US$39bn purchase to rank as the biggest buyout to date.
The buyout professionals involved in TXU exercised more than their financial savvy. Prior to the announcement, TXU had come under fire from environmental groups for its plans to build 11 new coal-fuelled plants, which are known to affect the environment. So the consortium of buyers came in and cut the number of new plants to three, so preventing 56m tonnes of annual carbon emissions.
To cultivate the regulator, the buyers also promised not to indebt Oncor Electric Delivery – the name of the regulated transmission and distribution business after the deal is complete. Furthermore, during June, Texas Energy Future Holdings Limited Partnership, the buyout vehicle, has pledged to cut by 15% the price TXU Energy charges its residential customers. Previously it agreed to a 10% cut.
All of this not only pleased multiple parties, but made it more difficult for new buyers to step forward, because of all the initial work the winning group had already put in.
Citi, Goldman Sachs, JPMorgan, Lehman Brothers and Morgan Stanley had already signed on to arrange the debt financing behind the original bid. To make things easier for potential rivals to come forward, TXU’s adviser (Credit Suisse) agreed to provide staple financing during the 50-day go-shop period, which expired on April 16. But at that time TXU announced that it would go ahead with its original plans because no superior proposals had emerged.
According to the company's 10K filing, the majority of the debt will be incurred by TXU Energy, the retail business, and a portion of the buyout will be funded by unsecured debt at TXU Corp. TXU Energy and TXU Electric Delivery, (renamed Oncor Electric Delivery) will also obtain new liquidity facilities for working capital needs. Oncor will incur no new debt beyond what might be drawn down on the liquidity facility.
On consolidated Ebitda of about US$5.4bn, the new company will be leveraged nearly seven times, including existing debt. As a result of these plans, S&P lowered TXU Corp's corporate credit ratings to BB from BBB–. The ratings agency also cut its unsecured debt rating to B+ from BB+ and reduced TXU Energy’s ratings to BB from BBB–. The ratings at TXU Electric Delivery are unchanged, but have been placed on negative watch.
The banks will also provide the consortium of buyers with US$1bn to fund a portion of the equity. The US$69.25 a share transaction represents a 25% premium to the average closing price over the 20 days ending on February 22. At close of the transaction, GS Capital Partners, Lehman Brothers, Citigroup and Morgan Stanley will also be equity investors.
This TXU deal was genuinely ground-breaking, as evidenced by the fact that Sallie Mae has agreed to be taken private by an investor group led by JC Flowers. Prior to the TXU announcement, debt-heavy, capital-intensive companies in areas such as regulated utilities or financial services had been considered off limits for private equity investors on the basis that to operate properly, their businesses require investment-grade credit ratings to keep down borrowing costs. But it is highly unlikely that A/A2 rated Sallie Mae will maintain its investment-grade status in the wake of the buyout, which will be funded by US$8.8bn of equity and a US$16.5bn debt package. JPMorgan and Bank of America are Sallie Mae’s lenders.