Private equity companies increasingly own the corporate debt of the portfolio companies they purchased in leveraged buyouts.In a sense, this is part of the the broader delevering process we’re seeing across the financial system. But here it becomes more complicated, bringing up issues about whether owning some of the corporate debt of a troubled portfolio company will allow private equity firms to exploit other debt holders. If investors begin to detect this kind of exploitation, it could make it harder for private equity firms to borrow money.
For now, at least, it seems as if the private equity companies tend to own debt in funds managed by different portfolio managers with nominally different investors. Kohlberg, Kravis, Roberts, for instance, owns Masonite International in one buyout fund and owns a chunk of Masonite’s debt through another. Other debt investors are concerned, according to Bloomberg.
“KKR bought Masonite, a Canadian door-and fiberboard maker, for $1.9 billion in 2005. The New York-based private-equity firm also holds Masonite’s bank loans, said three people involved in the talks. That puts KKR among lenders deciding whether to force it into bankruptcy for violating loan covenants, said the people, who declined to be identified because talks are private.
Masonite’s creditors say they’re concerned KKR isn’t eager to join them in squeezing more from the company because as an owner it would prefer to have lower borrowing costs. Such conflicts may increase because buyout firms, including KKR and Apollo Management LP, own more than $80 billion in corporate debt after spending about $750 billion on companies last year.”
For its part, KKR denies it is going to use its position as equity and debt holder to disadvantage other debt holders. “KKR’s private equity executives will continue to recuse themselves from any investment decision that may suggest a conflict between a private equity investment and a fixed income investment,” the company said in a statement in June. That may be true for now. But it is hard to imagine KKR would really drive a hard bargain and wipe out its own equity if corporate defaults among its portfolio companies ramp up.
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