Issues & Opinions

Or so it would appear – the consortium whose apparent (to me, anyway, and perhaps to me alone) grotesque overbid for Sallie Mae made news back in April may have found a pretense for reasoned re-examination.

Why? As reported at CNNMoney, “Sallie Mae says planned buyout may fail“.

Jul. 11, 2007 (AFX International Focus) –

WASHINGTON (AP) – The planned $25 billion buyout of SLM Corp. could be in jeopardy as the investors that agreed to buy the nation’s largest student lender, commonly known as Sallie Mae, say congressional legislation could kill the deal.

Sallie Mae disputes that. The takeover deal, one of the largest private buyouts ever, is led by private-equity firm J.C. Flowers & Co. At issue are the two sides’ interpretation of their acquisition agreement, signed in April, under which significant negative developments can nullify the deal.

On entry into this absurd offer to buy the company, the buying group was already aware of the coming significant reduction in federal subsidies for student loans, and surely had to also be aware of the firestorm that arrived just after their offer became public, the investigation by New York’s AG Andrew Cuomo, and the fact that other states were starting to pile on.

Subsequent events, nominally triggered by Blackstone’s IPO (or not – see addendum below), have shone bright lights on private equity, threatening (though not guaranteeing) meaningful changes in taxation for the dealmakers. Given the enormous competition for PE deals in the past year, the PE firms have reportedly been forced to reduce expectations for IRR on deals, down from the mid-30s to the mid-teens. Such is the curse (for PE) and the benefit (for sellers) of an imbalance between supply and demand for buyouts. With margin expectations squeezed, and with financing costs and covenants sure to keep getting tougher, the marginal deals are easy candidates for a skeptical review.

I have no way of knowing, of course, but this looks like an excellent excuse for a case of buyer’s remorse to set in, and best that it does so before having actually written the checks.

Sallie Mae said Wednesday it had been informed by the investors’ group, which also includes Bank of America Corp. and JPMorgan Chase & Co., that the investors believe that legislative proposals pending in Congress ‘could result in a failure of the conditions to the closing of the merger to be satisfied.’
Reston, Va.-based Sallie Mae said it ’strongly disagrees with this assertion, intends to proceed toward the closing of the merger transaction as rapidly as possible, and will take all steps to protect shareholders’ interests.’

If the deal were to fall through, the acquisition agreement provides for a $900 million breakup fee payable by either side under certain conditions.

(both excerpts edited to remove reams of tickers; emphasis mine)

Of course, Sallie Mae would dispute the potential deal-killing effect of the mooted evaporation of 25% or more of the buyers’ profit, due to a change in the tax regime. What else would they be expected to say?

The market took the threat seriously, however, shaving more than 14% off the price of SLM before the normal close of trading:

I’ll leave it to the imagination of the reader to guess what time the announcement occurred.

While the stock recovered several lost dollars in the aftermarket session, market actors seem clearly to think there’s something to the concern of the putative buyers.

And, given a reasonable, if not dispositive, assumption that the take-private offer was stupid-high, unjustified by any rational thought process, and likely to have succeeded at a much lower premium, the $900 million breakup fee might be the cheapest lesson the buyers ever learned, should they choose to pay the tuition.

If all it takes to get into that class is to say, “Hey, wait a minute – how many potentially life-threatening deal points are we willing to concede here? And on an unrelated matter, what’s Congress up to these days?”, then so much the better.

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Addendum – Good grief. Now that I’ve already written the story, based primarily on a Marketwatch headline that wasn’t specific about which Congressional action had gotten the buyers’ chests all bowed out, I see the full story at WSJ, and I find that the largest part of the issue is the reductions in federal subsidies.

The CNNMoney story, likewise, focused on the subsidy cuts, but because I tend not to take AP stories nearly as seriously as I do those in the WSJ, I presumed, incorrectly, that it had to be more than just subsidy cuts, because those were widely public before the deal was announced, and even mentioned in my April story on the matter.

Given the credence I place on the Journal, and the fact that its story, linked above, contains nothing related to private equity taxation as a causative in this current unpleasantness, I’ve got two things to add:

• If it’s not one of the causes, it should be, for Flowers’ sake
• Also, if the prime driver here is the subsidy cuts, that $900 million breakup fee is going to quickly go from hypothetical and conditional to cast in concrete – it’s a lame, lame excuse.

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Addendum – July 12 Whew! I still jumped the gun, but retrospectively, I can retract my partial retraction, just above. In an article this morning, entitled “Under Fire, is Private Equity Trying to Duck Out?”, the Journal included the potentially constricted debt markets and the new taxation proposals as additional rationale for the quibbling. Flowers et al, then, seem still to be within sniffing distance of a chance to make an arguably bad deal less bad.