In the current market, there's not often a slow-news day. Quite the opposite – we private equity reporters must pass on more stories than we pursue. The question, “How relevant is this story to our readers?” is central to the sifting process.
I have to admit I struggled with this reader-relevancy test when, last month, I came across the following story: Apollo Investment Corporation, the publicly traded business development company and an affiliate of private equity firm Apollo Management, had acquired Innkeepers USA Trust, a publicly traded real estate investment trust that owns 74 hotels. Is this even a private equity deal? Short answer: yes.
Longer answer: the Innkeepers deal is indeed a few degrees of separation from traditional private equity. On the surface, the purchase of one publicly traded entity by another publicly traded entity seems to fall more within the purview of straightforward M&A news. But the deal must be seen in the context of a market in which private equity management companies are constantly expanding their operations and resources. As firms like Carlyle, KKR, Blackstone and the like create permanent capital on the public markets, there will be more deals of the definition-stretching ilk.
Apollo Investment's $900 million launch in 2004 caused something of a ‘gold rush’ among US private equity firms, many of which immediately saw the utility of a public affiliate and filed to take their own BDCs public. Most of these efforts were canceled amid weak public interest. To the further chagrin of these also-rans, Apollo Investment has been a huge success. The stock is up more than 75 percent since IPO, and the corporation has already issued several follow-on offerings of stock. In the meantime, Apollo Investment has steadily increased its dividend (the current yield is 9.5 percent).
Most recently, the Nasdaq-listed company has shown its appealing flexibility. Apollo Investment's stated business is to make mezzanine and senior secured loans to middlemarket companies. Most of its deals are sponsored by traditional private equity firms. Now all of a sudden Apollo Investment has announced a $1.5 billion REIT buyout. The purchase will feed Apollo Investment with a nice cash flow for its dividend and support further expansion. REITs have been especially popular with private equity real estate firms of late, most prominently Equity Office, purchased by a Blackstone-led group for $39 billion.
Like warriors suddenly leaping out of the Trojan horse, creative deals and structures have been springing forth from public affiliates of private equity firms, much to the surprise of some market observers. Kohlberg Kravis Roberts' KKR Private Equity Investors, publicly traded on Euronext, recently announced a $700 million convertible note investment in Sun Microsystems. Another KKR affiliate, New York Stock Exchange-traded KKR Financial, recently added on a $1 billion affiliate called KKR Strategic Capital Fund, which will target “KKR debt-related deal flow, market dislocations, stressed and distressed opportunities”, according to its web site.
Of the largest five firms to be found in the PEI 50 (see p. 61), four have or are planning public affiliates. Carlyle is planning to list a capital corporation in Europe; Goldman Sachs is already public; KKR has its family of listed vehicles; and Blackstone is going public. PEI 50 firm number 6, Permira, has a public fund – SVG Capital – as a major LP.
Are we entering a private equity market where, somewhat perversely, listed vehicles deal with listed vehicles? Will an affiliate of a public KKR entity commit capital to a deal led by a publicly traded Blackstone entity, with mezzanine debt sponsored by a public Carlyle entity? Will the whole thing then be sold in a secondary transaction to some Zug-based listed entity, reissued as an insurance-wrapped security and sold to some publicly traded structured-products entity?
To use another military simile, will public affiliates of private investment firms become like armed satellites orbiting and waging drone warfare high above their earth-bound general partnership command-and-control centres?
Short answer: yes. And increasingly so.
The many firms that will launch public affiliates will do so based squarely on their track records as traditional private equity investors. The skills developed managing investments in private limited partnerships will be (one hopes) applied in the public setting. Does all this added together equal private equity, or something else entirely? Whatever it is, it's where the money is going, and therefore is highly relevant to our readers.