The announcement by privately-held Dell Inc. that it will acquire EMC Corporation, which was rated A1 by Moody's and A by S&P prior to the announcement of the deal, could prove to be a seminal event in the current credit cycle. It's always with hindsight that the market can point to market tops, and if this deal closes as expected in mid-2016, its sheer size, complexity, and the amount of debt being raised strikes me as a credible candidate this time around.
Looking back on the pre-crisis period, I can remember market prognosticators calling the 2007 Initial Public Offering (IPO) of The Blackstone Group the peak. Away from that, the prevalence and increasing size of leveraged buyouts (LBOs) were also cited as a sign of market froth. The LBOs themselves didn’t cause the downturn; rather they were emblematic of the state of the economic and credit cycle -- free flowing credit markets, a search for growth, and using leverage to boost returns.
Dell, which went private in a leveraged buyout itself in 2013, is planning to raise upwards of $40 billion of debt in the bond and loan markets to finance its $67 billion acquisition of EMC. If consummated, the deal will represent the largest buyout ever, surpassing the aggressive deals done during the 2006-2007 period. The largest of these leveraged recapitalizations are shown in this week's chart. Like EMC, the companies involved in these transactions were well known with solid business positions, if not market leaders.
Similar to past deals, the investment thesis for Dell-EMC will be rational and compelling -- a larger and more diverse enterprise, ample opportunities for synergy, and free cash flow utilized to pay down debt. The new debt will likely price very attractively and I may buy some to take advantage of the substantial discount that will be required to clear the market. The key will be when to sell it.
Key Takeaways: The closing of the deal itself, along with other pending and yet to be announced leveraging transactions, will not cause the next market sell off – a broader catalyst is needed. Regardless of the reason, it will be painful for companies that have not delevered ahead of it, such as it was for TXU, First Data, Caesars, Realogy, Hilton, Univision and others in 2008. Many made it through without a formal restructuring, but it was a rough ride for bondholders. As the current cycle marches on, I think market participants will look upon this deal, in retrospect, as the one that signaled the peak.
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