One of the most common complaints about private equity companies (and activist investors, corporate raiders, etc.) is that their relentless focus on making a quick profit results in the looting of companies, job losses, and so on.
That theory will be tested in court: Mervyn's LLC has sued its former private-equity owners -- including Cerberus and Sun Capital -- alleging that their profiteering tactics led to the chain's bankruptcy. When the $1.26 billion deal was consummated in 2004, The Wall Street Journalreports that (subscription required) "the deal was structured as two separate transactions -- one for the retailer and a second one for the retailer's real estate. This complicated structure, the suit alleges, enriched the private-equity firms while leaving the retail operations insolvent."
The firms then sold off real estate, paid themselves dividends, jacked up lease payments, and essentially transferred value from the chain to the private equity buyers, according to the lawsuit.
This will be a must-follow case -- assuming it isn't settled quickly and confidentially -- for those looking to understand the larger effects of buyout shops. I'm skeptical of the notion that private equity firms destroy companies and, if that was indeed the case with Mervyn's, it may have been a result of the complex structure and self-dealing.
In most cases however, there is little money to be made bankrupting something for which you pay hundreds of millions -- or billions.
TheStreet.com's Jim Cramer says the only action in the sector is that the rumor mill is spinning overtime.
There are tons of ridiculous stories that can be written in the Naked City. Notice that every day we are blessed with a story about how there are three private-equity firms examining Lehman Brothers (NYSE: LEH) (Cramer's Take) and Neuberger Berman (NYSE: NEU) (Cramer's Take). I think I have read that story a dozen times now.
You can list them, too: Blackstone (NYSE: BX) (Cramer's Take), KKR (NYSE: KFN) (Cramer's Take), Apollo (NASDAQ: AINV) (Cramer's Take), maybe Cerberus. What are they going to do, deny it? "No, we are not looking at it?" Their investors would love that: "Well what the heck are they doing with our money?" would be the reaction of investors if they issued denials. I predict weeks more of phantom tire-kicking of Lehman by nonexistent private-equity firms.
How about private equity about to swarm over collateralized debt obligations? Usual cast of characters there. Right? Come on, those stories are a penny a dozen. Every day I read about them. But nobody, other than Lone Star, is doing anything, anything at all on this front. If there were buyers, you can bet that Lehman and AIG (NYSE: AIG) (Cramer's Take) wouldn't be in the woods, lost, hopeless, with tons of bad European paper.
Sometimes, it's hard to determine if major investors are being overly optimistic, outright daffy, or are simply seeing something that the rest of us just don't see.
In my view, the current course of events at Chrysler Corp. is one of those difficult to determine situations. On its face, it looks like it could be a case of basic business logic in action. But on closer examination, it just doesn't make sense, at least not to me.
Declaring a payoff horizon of ten years, Cerberus Capital Management has placed a great deal of faith in Chrysler, the American auto manufacturer which is best described these days as an also ran. The kicker is, the Cerberus ten year plan is being initiated at a time when auto industry profitability is near impossible. Consider also the fact that current Chrysler management openly admits that the company isn't in any condition to go it alone.
And there's more trouble in the mix. Cerberus said in a New York Times story that Chrysler is meeting "every financial metric." But Cerberus considers the world's current economic turmoil to be a temporary problem, not the economic world change that it actually is. Meanwhile, Chrysler CEO Bob Nardelli is smiling because Cerberus has given Chrysler lots of money, and he gets to cut heads.
In the midst of an ailing US economy in the early 1990s, Cerberus Capital Management, L.P. got its start. And yes, the firm found many undervalued opportunities – and made a bundle. Actually, today Cerberus has holdings with aggregate annual revenues in excess of $100 billion.
So, in the current environment, Cerberus should be doing fine, right? Not necessarily. According to a story in Bloomberg.com, Cerberus's latest fund – called Series Four -- is down 1% since November 2006.
And it makes sense. If anything, Cerberus has been early in a variety investments. It also looks like the firm has diverged somewhat from its core-value approach.
Oh, and of course, Cerberus invested in iffy deals like Chrysler LLC and GMAC LLC.
True, Cerberus does take a disciplined approach to portfolio allocation – with no more than 5% of a fund in a particular deal.
However, such amounts can still be material – especially in a low-return environment. After all, there is still little clarity in the auto and mortgage markets right now.
Back in 1992, Steve Feinberg started a small private equity firm, Cerberus Capital Management LP. It was actually a tough time in the markets. But not for Cerberus. After all, it focused on distressed deals.
Now, the firm is putting together a fund to focus on distressed opportunities in foreign markets (this according to Reuters). After all, the credit crunch is a global crisis -- as seen in places like the UK and even Asia.
In fact, the new Cerberus fund will look mostly at financial services companies, which need lots of capital.
All in all, it's a smart move -- and should produce nice returns. Moreover, Cerberus has strong leadership to pull things off. For example, the chairman of the firm is John Snow, who is the former Treasury Secretary and has a golden Rolodex.
It also looks like Cerberus may raise capital from sovereign wealth funds. Keep in mind that TPG recently snagged $2.5 billion from China for its new fund.
I wrote a few weeks ago about Chrysler's new sales gimmick: buy a new Chrysler and pay no more than $2.99 a gallon for gas for three years.
Well it seems that the sales promotion is working, at least in the short run. Chrysler is reporting that sales in May are up 15% compared to April. Vice Chairman Bill Jim Press has announced that the offer will be extended until after the July 4 holiday.
But the real question is whether this is enough to turn Chrysler around. I was skeptical when I first heard about the plan, and I remain so. The cheap gas promotion is no doubt increasing foot traffic at Chrysler dealers and even moving some sheet metal, but the overall picture for Chrysler remains pretty bleak. Chrysler sales are down 18% for the year, and sales in May 2008 will be weaker than in May 2007 even with the promotion. So the cheap gas offer is probably just filling a few holes in a sinking ship.
Current projections call for fewer car sales in 2008 than in 2007, with the American car market shrinking by something like one million cars, down to 15 million. Given the poor mileage of most Chrysler products, I suspect that even with the $2.99 gas sales promotion, a disproportionate number of those unsold vehicles will be Chryslers. Even guaranteed cheap gas can't disguise the fact that Chrysler isn't selling the well-designed, fuel efficient cars that Americans are increasingly demanding.
The Associated Press reports that Cerberus Capital Management, the hedge fund, has decided to abandon its deal to purchase the mortgage business of H&R Block (NYSE: HRB). H&R Block's mortgage business, which has stopped accepting new mortgage applications, said it will lay off about 620 employees, close three offices and take a $75 million restructuring charge as it shuts down lending at Option One Mortgage Corp. (OOMC).
Why did Cerberus back out of the deal? The deal was struck in April, and since then the mortgage market has had some big downs. While Cerberus and H&R Block tried to renegotiate the agreement regarding Option One, they could not come to terms, announcing the termination was ''fully amicable." OOMC will honor $30 million worth of existing commitments.
The market is not happy with this announcement, sending H&R Block stock down 5.6% in premarket. It makes me wonder how much Cerberus -- which is already neck deep in mortgage problems with its GMAC ResCap investment -- must be thinking about the prospects for the mortgage industry. I would guess that the more it's learned, the less it likes.
H&R Block Inc. (NYSE: HRB) Chief Executive Mark Ernst today resigned as his efforts to unloaded the company's money-losing subprime mortgage business Option One Mortgage Corp. to Cereberus Capital Management LP nears collapse, according to Bloomberg News.
Former SEC Chairman and hedge fund manager Richard Breeden, who had long complained about losses at Option One and lead a proxy battle against the company, was named chairman and Alan. M. Bennett, a former CFO of Aetna Inc. (NYSE: AET), interim chief executive. H&R Block is conducting a search for a new CEO. Bennett has told the company he doesn't wish to be considered as a candidate, the company said in a press release.
Cerebeus agreed to pay H&R Block $800 million for Option One in April, well under the $1.3 billion the company had hoped to get. Cereberus may scuttle the deal entirely now given the continued uncertainty of the credit markets. It's unclear what's going to happen to Option One which Ernst had said H&R Block may close if it couldn't find a buyer, Bloomberg said.
Shares of Kansas City-based H&R Block, which have slumped more than 17% this year, rose in pre-market trading. It will be interesting to see if Breeden will be able to help turn around H&R Block now that he's become an insider.
The blind leading the blind. U.K. mortgage bank Northern Rock has almost gone under. If it were not for funds provided by the government, it might be gone already. But Northern Rock is still looking for help. In a twist of irony, that aid may come from Citigroup (NYSE: C), which has its own problems with mortgage instruments. The big U.S. bank said its earnings would drop 60% for the last quarter, some due to mortgage securities to write-downs.
According to a report in The Telegraph, there are several options being weighed to save Northern Rock. "One possibility being discussed by the Government and the company would see Citigroup, the U.S. bank advising Northern Rock, provide a funding line of up to £10bn to enable the board to run it for the long term."
The British government could also encourage a sale of the mortgage company to a hedge fund. U.S. hedge funds JC Flowers and Cerberus have expressed interest. But, a buyout from one of these firms is likely to be at a very low price that could wipe out public shareholders and some of the companies bonds.
If Citi does make the loan, it will be profiting from the mortgage problems of another company after taking a beating in the same market on its own. It would be a perverse twist of fate.
Perhaps there are not enough good opportunities to "cherry pick" assets among U.S. mortgage lenders, so U.S. buyout firms Cerberus and JC Flowers have gotten approval to deal with the board of Northern Rock (LSE: NRK), the large and troubled U.K. mortgage bank.
The two funds would probably take different approaches. Flowers is interested in having Northern Rock continue to operate, but perhaps with many fewer employees. Cerberus is interest in the bank's assets, which it believes it can get at a discount and then sell off to other institutions.
According to The Telegraph, British authorities "have said Northern Rock is solvent, but sources close to the restructuring warn that it is living on borrowed time."
A buyout of Northern Rock could be a trial for whether similar deals could work in the U.S. There is little hope that the U.S. mortgage market will be better this year and may even stay depressed into 2008. Banks like Accredited Home Lenders (NASDAQ: LEND) are still not out of the woods. And, private equity and hedge fund interests may be the only buyers left for some of these companies.
There are stirrings that buyouts are making a comeback. Look at private equity firm, Cerberus Capital. Today, the firm has announced that it will shell out roughly $2 billion for the North American paper operations of Stora Enso (the company will retain a 19.9% equity stake).
The deal is fairly strategic as Cerberus already owns NewPage, which is a coated paper producer. As a result, Cerberus will merge the Stora operations with NewPage. Yes, having scale can be a huge benefit in the private equity world – in terms of financing and synergies.
However, the paper business is tough. With the declines in newspapers and magazines, it's certainly hard to find growth.
But Cerberus usually is contrarian. Hey, it bought Chrysler, right?
Chrysler has been the No. 3 automaker in the U.S. for decades. It bought Jeep and American Motors along the way, and for over a decade was part of Daimler (NYSE: DAI). Over the last two years, the company fell on hard times and hedge-fund Cerberus was willing to take a chance on it.
Cerberus has done a couple of things to improve the odds that Chrysler may actually be rebuilt. Hiring former General Electric Co. (NYSE: GE) and Home Depot Inc. (NYSE: HD) executive Bob Nardelli was an odd choice. But, under him the company has brought in the former head of Toyota's U.S. operations, as well as the former chief of GM in China. Neither executive could have come cheap.
A stronger Chrysler is probably a bigger threat to General Motors Corp. (NYSE: GM) and Ford Motor Co. (NYSE: F) than it is to any of the overseas auto firms. Chrysler still sells almost all of its cars in the U.S. It has aspirations of building beachheads in Latin American and China, but that could take a number of years.
Toyota Motor Corp. (NYSE: TM), Honda Motor Co. (NYSE: HMC), and Nissan are already squeezing sales from the two largest U.S. car companies. If Chrysler is going to regain sales quickly, it will have to do what it did under Lee Iaccoca, which is hurt its cross-town rivals.
Chrysler says it will keep all of its brands but cut back some of its models. The devil is in the details on that set of decisions. But, Ford and GM may have something new to worry about.
Private equity operators are crossing their fingers. Will the debt markets have enough capacity to fund the billions and billions of recent buyout deals?
As a result, there's quite a bit of attention on the massive deal for Chrysler, which is being spun off by DaimlerChrysler (NYSE: DCX).
Well, according to a piece on Bloomberg.com, there are some bumps in the road.
On a $10 billion loan, the private equity firm, Cerberus, wanted to get a juicy rate of 3.25% (above the London interbank rate). But there were not enough takers. So, the new offer is 3.75%. And, as for another $2 billion loan, Cerberus tried to get 6% (above Libor), but has now upped it to 7%.
This certainly seems reasonable. Despite the extreme liquidity in global markets, there are still limits.
Besides, Chrysler is not a slam dunk deal. The competition is brutal and the employee benefits are onerous.
But, it still looks like the deal is on track – although, it's not going to be cheap.
Tom Taulli is the author of various books, including the Complete M&A Handbook and the EDGAR-Online Guide to Decoding Financial Statements.
Cerberus, the hedge fund that is buying a majority interest in Chrysler, is reportedly looking at Ford (NYSE: F) properties Jaguar and Land Rover. Combined with Chrysler, the fund would have assets in the luxury and mainstream car markets along with SUVs and pick-ups.
But the financial firm would be gambling that US demand for cars will pick up briskly over the next few years. Range Rover and Jaguar rely on the US. for a large portion of their sales, and the market here is predicted to be no better than flat this year.
The financial risk is also significant. Chrysler is losing money and Jaguar's loss may be over $1 billion, according to some industry experts.
This means that unlike GM (NYSE: GM) which is doing well overseas, especially in China, and Ford which makes money in South America and Europe, the rolled-up car companies that Cerberus is looking at could all be losers.
Since the early 1990s, private equity firm TPG has built a great reputation with turnarounds. One marquee deal was Continental. TPG has also been quite savvy with high-tech targets. For example, the firm is in the process of buying Avaya Inc. (NYSE: AV).
But, it's not a complete cake-walk for TPG. Take a look at the firm's $560 deal to buyout consumer electronics company, JVC. The issue? Well, lenders are backing off. After all, interest rates have been rising.
What's more, JVC is still deteriorating. They are in a tough marketplace and must compete against biggies like Sony Corporation (ADR) (NYSE: SNE).
Although, a deal still may get done. Apparently, Cerberus may be a suitor.
Tom Taulli is the author of various books, including the Complete M&A Handbook and the EDGAR-Online Guide to Decoding Financial Statements.
One of the most common complaints about private equity companies (and activist investors, corporate raiders, etc.) is that their relentless focus on making a quick profit results in the looting of companies, job losses, and so on.
Sometimes, it's hard to determine if major investors are being overly optimistic, outright daffy, or are simply seeing something that the rest of us just don't see. 
In the midst of an ailing US economy in the early 1990s, 
and 
. He also operates 
Back in 1992, Steve Feinberg started a small private equity firm, 
and 
. He also operates 
I wrote a few weeks ago about Chrysler's 
There are stirrings that buyouts are making a comeback. Look at 
Private equity operators are crossing their fingers. Will the debt markets have enough capacity to fund the billions and billions of recent buyout deals?
Since the early 1990s, private equity firm 
Stock picks and pans for troubled times: AAPL, COST, EWBC, IBM, YUM, PG ...
NYU's Roubini: 'All fronts' approach necessary to end global financial crisis 
Global Q&A: A rainy day in London
