What's Behind Blackstone's Recent IPO Meltdown

Back in October, Blackstone Group (BX) CEO Stephen Schwarzman declared that "at least for private equity, the worst is behind the industry" and indicated that his firm was poised to take eight companies public. This was certainly good news for his investors, who eventually want to see returns.Unfortunately, Schwarzman's market forecast may be a bit off. In fact, during the past week, the firm's IPO strategy came to pieces. Blackstone had to cancel its $1.78 billion offering of Travelport and postpone its IPO of Merlin Entertainments.

While Blackstone was still able to pull off an offering for Graham Packaging (GRM), the deal was shaky. The goal was to issue 23.3 million shares at $14 to $16. But the company could sell only 16.7 million shares at $10 each.

Of course, a big problem is that the equities markets have been volatile lately. However, this may be only a partial explanation. If anything, the past week may show that Schwarzman's exuberance is wide of the mark.

A Closer Look at the Deals

Blackstone's latest IPO efforts have several common themes. First of all, the companies are not growth stories. Actually, they're somewhat dull. Graham Packaging, for example, develops custom blow-molded plastic containers. It has 84 manufacturing facilities -- many of which are at customers' sites -- and ut even has over 1,000 issued patents.

Because of the high margins, Graham Packaging has healthy cash flows, but the growth is lagging (the recession has taken a toll). For the first nine months of 2009, revenues fell from $2 billion to $1.7 billion.

This blandness is also the case with Travelport, which is a meld of various online travel business like Galileo and Worldspan.

Next, Blackstone's offerings are bloated with debt (Graham has $2.44 billion and Travelport carries $4.1 billion). Basically, investors don't want to buy up so-so companies to refinance the debt and provide juicy returns to private equity investors, right?

But high debt isn't necessarily a problem. After all, KKR had a successful IPO of its Dollar General (DG) holding, issuing 34.1 million shares at $21 each. Then again, the company has a strong brand and a credible growth story.

Continued Deterioration for Private Equity

In a way, the private equity business is fairly simple. A fund buys a company with equity and debt. It restructures to boost cash flows. Finally, the private equity firm gets a return, through dividends, a public offering or a sale to a strategic buyer.

The playbook has worked fine except for the last part. And given the size of the buyouts from 2005 to 2007, private equity firms really need a healthy IPO market to get competitive returns.

Interestingly enough, about a third of the funds raised in 2006 have yet to return any money to investors (according to a Bloomber report). This will certainly make it difficult for private equity firms to raise more capital. And yes, it should be no surprise that it looks like Blackstone is having troubles in raising its next fund.

What's more, there were $1.6 trillion in buyouts from 2005 to 2007, which means that there's a massive waiting list for companies to get liquid. So, the comeback for private equity -- at least for getting returns -- may take many years.

Tom Taulli advises on
business tax preparation and resolving tax problems. He is also the author of a variety of books, including the including The Complete M&A Handbook. His website is at Taulli.com.
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