The uptick of private equity activity targeting insolvent companies is starting to happen but leading to some interesting behaviour as groups struggle to adjust their decision-making processes.

Ten European buyouts have come from businesses in administration, up from six during the same period last year, according to data provider Mergermarket

This week RCapital, a UK turnround specialist and private equity group, bought door-to-door lending business Morses Club from London Scottish Finance.

And private equity is also being creative to prevent their portfolio companies falling into administration in the first place – Change Capital Partners bit just this bullet when passing over control of hardware store operator Robert Dyas to management.

But the speed they have to work out a potential investment is catching the more institutional private equity firms out. One said a two-week turnround to get the investment committee to decide on a prospective deal on limited due diligence and other uncertainties was too difficult.

One buyout professional said his initial approach to the downturn had been to approach bankers with the uncomplicated scenario that it would make an offer substantially above some of its sophisticated peers, such as Swedish buyout firm EQT, when it was seeking control of a struggling business.

However, this tactic has struggled as the investment committee still needs sign off in a short period of time. In addition, the bankers deciding on a restructuring and change of control were often different – as they were in workout teams or structured finance departments – to the ones assiduously courted by private equity firms during bull markets – the sponsor coverage bankers.

This fleet of footedness of specialist turnround and restructuring buyout firms has helped a handful of players, including Endless and RCapital, gain greater traction in the market. And their experience over decades in many cases also provides a degree of comfort when taking a calculated bet on a potential deal.

However, this is a high-risk/high-return area. Just in some of the recent deals there is a potential huge risk, for example in shop rent or staff discontent, advisers say.

And investors should beware the statistical truism that high positive and negative return volatility over a number of years leaves them worse off than a marketable investment showing low volatility.

Therefore don’t expect too many restructuring deals from the classic buyout firms until, if ever, they’ve had time to adjust their processes. 

Contributed by: James Mawson, editor Private Equity News:  www.penews.com