There are rumours in the market that private equity firms are considering bidding for US DIY giant Home Depot. Home Depot’s market capitalisation is currently $78bn, so any private equity bidders would have to pay somewhere in the region of $100bn to takeover the company. To put this figure in perspective, only six companies in the FTSE 100 have a market cap of over $100bn.
A leveraged buyout (LBO) of this magnitude would send shock waves around the world. Before this year, the $25bn takeover of RJR Nabisco in 1988 was the largest the LBO the world had ever seen. But in July this year, HCA (a US health care company) was LBOd for $33bn, and last month Equity Office (owner of Worldwide Plaza in New York) was bought for $36bn. The market believes that an LBO of $100bn is unlikely, as shown by the fact the Home Depot’s share price has hardly moved, but the fact that there is speculation that such a large takeover could occur is proof that an LBO of
this size is potentially on the horizon.
If it does occur, then corporate bond holders better watch out. A leveraged buyout results in a large amount of debt placed on the victim’s balance sheet, and inevitably results in multiple credit rating downgrades. LBO targets have traditionally been BBB rated companies as they tend to be smaller companies than their higher rated contemporaries, and are therefore within range of private equity companies. A deal of $100bn would suddenly bring a significant part of the UK corporate bond market into play. Spreads may well then widen out across the board, because LBOs mean higher leverage, which in turn means greater default risk.