Twitter takeover - the biggest leveraged buyout in history
Biggest Leveraged Buyout (LBO) in history
Twitter’s board had previously accepted Elon Musk’s $44bn take-private offer. However, since then Musk has accused Twitter of breaching its contract with him by failing to provide information about spam accounts which puts the deal in jeopardy. Should this deal close, it will be the largest leveraged buyouts (LBO) in history.
This article will look at the breakdown of the $46.5bn financing package.
14 April 2022, Elon Musk made a “take private” cash offer of $54.20 per share to buy all the shares in Twitter that he didn’t own already. This valued Twitter at $43bn. Since the end of Jan 2022 Elon has spent $2.64bn to get 9.2% of Twitter.
A leveraged buyout is when one company acquires another using a significant amount of debt to fund the acquisition. This allows the acquiring company to make a big acquisition without committing a lot of its own capital/equity.
Interest rates on the debt taken can be exceedingly high at times depending on the type of debt (secured, credit rating, currency etc). Cash flows generated by the acquired company are used to service.
When the global pandemic came in 2020, interest rates dropped significantly globally. This meant that companies could take advantage of this by borrowing substantial amounts of money and move their capital structures around. Rates are starting to climb again.
One of the biggest pitfalls of an LBO is that the acquired company spends a lot of time cutting costs post-buyout to pay back the debt more quickly. Due to salaries and wages being the biggest expense item for many companies, LBOs sometimes result in retrenchments.
Companies with the following characteristics are suitable for an LBO:
- Balance sheet with no or low amount of outstanding debt: the target can then be able to take on more take due to the LBO,
- Low future capital expenditure and working capital requirements to preserve cash
- Steady and predicable cash flows (needed to service the debt loaded)
- Underperforming/non-core assets and that can be sold. Proceeds of which will be used to pay down the debt pile.
Now what kind of debt is used in a typical LBO? There isn’t a clear-cut answer but what is commonly used (in combination) are the following;
- Senior Debt which is the “cheapest” of all the financing instruments (has a lower cost of capital),
- High-yield debt (Junk Bonds) has higher financial costs than senior debt,
- Subordinated debt can also consist of several types of mezzanine financing (aka quasi-equity, or equity-like securities) such as PIK notes, convertible preferred debentures.
One needs to do a Sources (lenders and equity investors) and Uses (paying previous debt holders, previous equity holders, transaction fees) analysis to trace the flow of money being used for various purposes to complete the transaction.
Let’s look at the funding of the Twitter LBO.
1) $13bn debt split as follows;
- senior secured term loan of $6.5bn,
- senior secured revolving facility of $500m,
- senior secured bridge loan facility of $3bn
- senior unsecured bridge loan facility $3bn
2) Margin loan: $12.5bn. This was the initial margin loan which has subsequently changed.
3) Elon’s equity: $21bn has also changed from the time the deal was initially announced.
1) Morgan Stanley, who is advising Elon, has committed to put up the above $13bn of debt financing along with several big banks. The $13bn debt is 9x Twitter’s 2022 estimated EBITDA.
2) Lenders had extended a $12.5bn margin loan secured against his unencumbered Tesla shares. At a loan-to-value ratio of 20%. Elon would've pledged $62.5bn of his Tesla holdings.
Elon Musk recently raised $7.14bn from a group of investors. The margin loan then reduced from $12.5bn to $6.25bn and increased his equity contribution portion to $27.25bn.
Late May 2021, Elon eliminated the remaining $6.25bn margin loan, and increased his equity commitment by the same $6.25bn. This means that the new financing package is as follows; $33.5bn equity and $13B LBO financing from banks led by Morgan Stanley. This financing has changed from $27.25bn equity, $13bn LBO and the $6.25bn margin loan.
3) Elon’s $33.5bn of equity. Where could come this come from?
· His own cash,
· Swapping some Tesla shares
· Private equity sponsors
Now you might be asking yourself why would Elon use debt when he is rich? Some reasons are as follows;
- debt usually has a lower cost of finance vs equity.
- debt does not provide an ownership stake.
- interest on debt is a deductible business expenses for tax purposes. No tax deduction on equity.
- debt tends to be less complicated to arrange than equity financing and may not require shareholder approval.
- once the debt is repaid, it leaves your balance sheet. Equity remains outstanding unless repurchased by the company, which typically requires the shareholder’s approval.
LBOs are back and the growth of private debt is fuelling this growth. Private debt is the 3rd largest alternative asset class in the world and private debt is expected to grow at a compound annual growth rate of 11.4% per annum to $1.46 trillion at the end of 2025.
Here’s an example of how private debt was used in a recent LBO. Early 2022, Thoma Bravo, a leading software investment firm agreed to buy SailPoint Technologies Holdings (the leader in enterprise identity security) in an all-cash transaction that valued SailPoint at $6.9 billion. Financing for the transaction is being provided by Golub Capital, Blackstone Credit and Owl Rock Capital.