July 13, 2022
Private Equity: Portfolio Company Debt Buybacks
In case you missed it, the credit markets have become pretty choppy in recent months and a lot of debt issued by private equity portfolio companies has been trading at a significant discount. That’s expected to lead some PE funds or portfolio companies to consider buying back some of that debt. This recent Davis Polk memo discusses some of the threshold issues that PE sponsors should consider before committing to that path. This excerpt addresses potential conflicts of interest:
In some cases an acquisition of portfolio company debt can raise potential conflicts of interest that a sponsor will want to consider and properly address under its fund documents or as an investor relations matter before proceeding. For instance, if the acquisition of debt is being made through a different fund than the one that holds the equity, the sponsor may face a conflict of interest by virtue of advising two funds in different parts of the company’s capital structure. In distressed scenarios, this conflict can be more acute. Resolving these conflicts may require consultation with, or approval by, each fund’s investors or limited partner advisory committee.
Other considerations identified in the memo include restrictions on buybacks contained in the relevant credit agreements or indentures, the need to navigate securities law disclosure issues associated with repurchases, potential tax implications, and whether the buyback would create issues for funds that want to maintain qualification as “venture capital operating companies.”
– John Jenkins