An important player in the private equity market, Bain Capital, is increasingly under public scrutiny for its failed LBO deals. Since 2000, there have been 5 key LBO deals that generated poor returns for Bain Capital: Gymboree Corp, Toys ‘R’ Us, Guitar Center, TOMS Shoes, and iHeart Media. The fund nonetheless still has sound finances due to management fees and purchasing senior debt at significant discounts. Thus, close examination of these failed LBO deals, especially iHeart Media, will reveal whether Bain Capital is on the slippery slope of LBOs and the impact of this trend on the private equity industry.
iHeart Media was the USA’s largest radio broadcaster, formerly referred to as Clear Channel Communications. The firm had 855 radio stations, including New York’s Z100 and 103.5 KTU. In 2008, Bain Capital and Thomas H. Lee Partners raised $24 billion for iHeart Media for an LBO, and assumed the company’s $8 billion in existing debt. Buying iHeart Media’s shares at $36/share, both funds held a combined 72% stake and $2 billion in equity. The outstanding transaction, financed by LBO, had a debt value of approximately 9 times iHeart Media’s pre-tax cash flow. Not only did this exceed the 6 times leverage limit set by Obama on LBOs in 2013, but also this deal unfortunately added $13.5 billion in new debt to iHeart Media’s balance sheet.
In 2016, iHeart Media had a net loss of $300 million after making $1.8 billion in debt repayments. By 2017, its annual interest payments were $1.4 billion. In conjunction with iHeart Media’s shrinking top line, high debt meant that the firm lacked cash for retained investment to remain competitive against streaming services like Spotify. On February 1, 2018, the media firm missed its $106 million interest payment and began a 30-day period to reach a deal with creditors. Seizing this opportunity, Liberty Media, owner of Sirius XM, offered $1.16 billion to buy a 40% stake of the restructured firm, on the condition that 4 out of 9 board members would be from Liberty Media. Whether it was due to culture clashes or pressure from investors, iHeart Media declined the offer. By March 2018, the firm had over $20 billion in debt and had defaulted $9.4 billion in junk bonds and $6.3 billion in loans.
Despite bankruptcy proceedings, iHeart Media will continue its operations. Both funds retain 10% ownership in iHeart and a significant stake in the company’s out-door advertising brand, Clear Channel Outdoor Holdings. More specifically, Bain Capital still has $1.2 billion of iHeart senior debt. Under 2018 restructuring, senior creditors will be awarded 94% of iHeart’s equity & 100% ownership of Clear Channel Outdoor, while common shareholders retain only 1% equity.
Undoubtedly, iHeart Media is an interesting case study for the private equity community. Had the LBO amount been lower, the media firm might have avoided bankruptcy altogether. If iHeart Media accepted Liberty Media’s offer, would they regain a foothold in the disruptive media industry? What are the managerial implications of senior creditors having almost 100% equity in iHeart Media? Most importantly, if a $20 billion LBO deal failed (the biggest in years), what does this imply for the future of Private Equity’s LBOs? In failed LBO deals, funds still gain from the annual management fees that investors pay before the bankruptcy. Hence, should PE Funds be mandated to pay fees for failed LBOs as an incentive to be more prudent in these deals? Bain Capital’s failed LBOs have mostly been in the retail and media industries. Will PE firms therefore start to transition away from these industries for their LBOs?
It is crucial that before conducting an LBO, PE funds must anticipate the disruptive changes in their pipeline’s industries and whether these companies are agile enough to adapt to these changes and repay their debt. Without this careful consideration, PE firms will inevitably head towards the slippery slope of LBOs.
