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Picking Up the Pieces

In the wake of a broken deal, how do companies move on?
Avital Louria Hahn, CFO Magazine
April 1, 2008

When United Rentals Inc. agreed to be acquired by Cerberus Capital Management last summer, the deal seemed secure and members of the management team were happily calculating their share of the $6.2 billion windfall.

Those calculations were premature. In November, four months into the credit crisis, Cerberus walked out on the world's largest equipment-renter, leaving behind a stunned company that had to reinvent its future in the face of a sudden 30 percent drop in the price of its stock.

United Rentals sued the private-equity firm, ultimately collecting a $100 million breakup fee. "It felt like being left at the altar," says Martin Welch, CFO of the Greenwich, Connecticut-based company. "You are getting ready to go and there is no one there."

United Rentals was far from the only jilted seller last year. According to Thomson Financial, some $55 billion worth of acquisitions of public companies by private-equity buyers have fallen through since the start of the 2007 credit crunch (see the chart link at the end of this article) for reasons ranging from difficulty in obtaining financing to unforeseen deterioration in business. The casualties included student lender Sallie Mae, audio- and electronic-equipment maker Harman International Industries, and Affiliated Computer Services, an IT services firm best known for the E-ZPass. And while sectors varied, the pain was universal. "You're not only penalized for not having a transaction, you're also penalized by the market for not having a transaction consummated," says Jeff Bistrong, managing director at investment bank Harris Williams.

In the wake of a blown deal, companies have a few immediate alternatives, including suing the buyer or starting talks with a new one. But given the severity of the recent credit meltdown, other viable bidders rarely materialize. Consequently, most of the jilted companies have had to figure out how to carry on. Initially that involves reestablishing contact with affected constituencies, from employees to shareholders to equity analysts and rating agencies. "People want to know how you as a leader feel about the situation," says Welch.

Then there is a lot of work to do: securing capital, replacing key people who have left, and executing a new growth plan. Amid all the tumult, success ultimately depends on staying on course, says Welch. "We have to execute our plan, set the appropriate guidance, and make sure we meet it," he says.

Containment Strategy
Successfully rebounding from a broken deal often hinges on maintaining management's focus during the sale process. United Rentals and Affiliated Computer Services made conscious efforts to minimize distractions and have quickly regained their footing.

Management at United Rentals decided to limit the number of people involved in the deal and kept the company largely operating as usual. The finance team, for example, played a key role in maintaining stability by focusing on the company's daily affairs and responding efficiently to Cerberus's requests. Case in point: when the private-equity firm wanted to examine the company's risk practices, only United Rentals's risk officer was drawn into the process, says Welch.

Affiliated Computer, too, made an effort to keep its $8 billion buyout by Cerberus contained within management. "We engaged the operating units and managing directors only when we needed them," says CFO Kevin Kyser. "The managing directors knew that their primary focus was driving the business."

Sometimes, however, the deal itself is just too distracting to be ignored. One example is arguably Sallie Mae, whose CEO, Albert Lord, stood to make $120 million in the $25 billion buyout. Sallie Mae and Lord dominated business headlines for months, but despite that continuous scrutiny, there were still some unpleasant surprises ahead: during a December analyst call, Lord's assessment of the situation apparently alarmed the analysts further, sending the stock price down by 20 percent in a single day.

Get What You Can
The ugly truth is that a public company that puts itself in play puts itself at risk. By the time a deal falls through, a seller may have lost business, suffered from management distraction, and incurred large legal fees. It may also suffer from the public perception that it's in trouble, which will affect the stock price.

Little surprise, then, that among the last crop of failed deals many companies sued the would-be buyers, ultimately extracting financing, equity investments, or breakup fees.

Lawsuits can be disruptive, expensive, and time-consuming, but Dominick DeChiara, head of leveraged finance at Nixon Peabody LLP in New York, says they are a valuable tactical weapon. "Private-equity firms think lawsuits are a waste of time and want to minimize them," he says. Companies can therefore reasonably expect private-equity firms to be willing to negotiate concessions.

The strategy worked for Washington, D.C.-based Harman International. The company had expected to be acquired for $8 billion by a Kohlberg Kravis Roberts (KKR)–led group, which reneged when the market crumbled. Harman sued for $100 million, then dropped the suit in exchange for a $400 million equity investment.

Even Sallie Mae, which in April 2007 agreed to a $60-a-share buyout by an investor group led by J.C. Flowers, got the buyers to back a $30 billion financing package in exchange for withdrawing a lawsuit and forgoing a $900 million breakup fee.


The financing was widely regarded as crucial. "With little chance of recovering the $900 million termination fee and the legal expenses involved, we believe the company did the right thing and secured funding as a trade-off," notes FBR Group analyst Matt Snowling.

Take Stock
For all the disruption failed deals cause, they can also have a positive effect by allowing a company to reevaluate itself, make necessary changes, and chart a viable growth path. Harman's restructuring plan, for example, includes cutting costs, consolidating offices, and expanding globally. It also improved its governance by adding directors such as KKR partner Brian Caroll. The company cautioned, however, that things would get worse before they improved. In February, when Harman reported $43 million in fourth-quarter profit, down from $81 million the year before, its shares fell 13 percent, to $39.82.

At Affiliated Computer, the growth plan involves acquisitions and new markets abroad, yet it relies heavily on securing old ties. "Most of our business comes from recurring revenues," says CFO Kyser. But efforts to develop new business in its commercial segment took a hit when some new clients, aware of the impending buyout, hesitated to sign contracts. "You could see we had fewer commercial bookings than in the past," Kyser says. "Once we announced the buyout was over, these things resolved themselves quickly and we had a great second quarter of commercial bookings." Kyser says the company will make some acquisitions and remain independent for the foreseeable future.

Of course, moving forward is a lot easier if you already have a plan. United Rentals developed its growth plan for 2008 last spring, before the potential acquisition. It includes cutting costs, increasing efficiencies such as its equipment-utilization ratio, and growing through acquisitions. "About a year ago, we decided to focus more on profitability and less on growth," says Welch, who notes that Cerberus approved of the plan.

Communicate to the Max
Still, if there's a single thing a finance chief must do when a deal breaks, it's to communicate, says Welch. At United Rentals, convening meetings and small-group discussions helped morale after shares plunged to $23 from $34.50. A special analyst conference call in January helped restart the company's relationship with Wall Street. Welch also met with credit-rating agencies, which would have downgraded the company's debt if the deal had gone through.

"You want people to understand that even though a deal isn't going to happen, you will still move forward," says Welch. "The world is not coming to an end."

Avital Louria Hahn is a senior editor at CFO.


To see a list of the largest broken deals between U.S. firms and private-equity acquirers since the start of the credit crunch, click here.




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