Buyout Deals Are Costing More Dearly

Private equity firms are having to reach deeper into their pockets to pay for buyouts these days, as purchase price multiples are approaching record-high levels, according to data provided by S&P Capital IQ LCD.

When measured by multiple times a company’s earnings before interest, taxes, depreciation and amortization, the average purchase price for leveraged buyouts has shot up to 9.1 times Ebitda in the fourth quarter of 2012. That level is on par with the 2008 level, according to LCD. Purchase prices peaked in 2007, with an average of 9.7 times Ebitda being paid.

However, full-year 2012 purchase price multiples still stood at a relatively moderate level of 8.7 times Ebitda, roughly in line with levels recorded in the last three years, according to LCD.

Still, the spike in prices in the fourth quarter — recorded in both large-cap and midmarket deals — speaks volume about the effect  robust credit markets are having on buyouts. According to the British bank Barclays PLC, BARC.LN +1.35% issuance of both high-yield bonds and leveraged loans in 2012 through Dec. 10 was up from 2011 levels, approaching the peak levels in 2007.

Rising valuation was one reason why midmarket deals experienced a dent in 2012, according to an analysis of the U.S. buyout market in the 2013 Global Outlook & Review, published by Dow Jones & Co. A dwindling inventory of quality businesses and uncertainty in the macro environment adds to the challenges for buyers.

“It’s going to be a choppy year,” said Howard Lanser, managing director of midmarket investment bank Robert W. Baird & Co.

In the large-cap market, where there was an increase in deal activity in 2012 over the year before, people shouldn’t anticipate a comeback of a buyout boom as yet, as at least one mega-firm said it is treading carefully.

“You might see a few large buyouts because liquidity is there,” said Joe Baratta, global head of private equity at Blackstone Group BX +1.38%. “But you are not going to see a resumption of large-cap buyotus [as they were in 2005 to early 2007] because it is hard to make returns work.”

“For us, the bar for large buyouts is very high,” Mr. Baratta said. “We need to find a way to materially change the business to burn off big premiums we have to pay.”