Middle Market Gets the Job Done Creatively

February 25, 2008

Private equity-fueled M&A activity was about as frozen as Vermont in January. One month later, though, and the buyout deal community seems to have awoken from a deal slumber much like zombies in the George Romero film "Diary of the Dead" spring from being inanimate to alive at the blink of an eye.

Word on the Street has it that the PE community is dealing largely with portfolio company oversight until the leverage loan market thaws. And, while there’s no disputing buyout deal volume is way, way down, primarily because of credit problems and seller expectations, the truth couldn’t be further from the chatter as it concerns the middle market. Corporate divestitures and secondary buyouts are continuing to provide deal flow for the market segment even if dealmakers in 2008 are still finding their foothold.

To wit, a spate of deals have been signed or closed in the mid-sized market segment of late including Kohlberg & Co.’s $200 million agreement to buy a hockey products maker from Nike, Veronis Suhler Stevenson closed on its purchase of U.K. event exhibitor company Clarion Events from Hg Capital, Imperium Partners Group’s $58 million buy of ESS Technology and LNK Partners purchase of the Au Bon Pain bakery café chain from PNC Mezzanine Capital and AlpInvest Partners.

The sectors the transactions have taken place in vary as much as the focus of the typical investment house. Perhaps, though, one of the more interesting deals in the sector revolves around Arsenal Capital Partners $30 million equity infusion in an online consumer lender called FirstAgain, a company founded in 2004 by two former Ford Motor Credit executives with $5 million in bootstrapped capital, whose principal product is called the AnyThing loan. Whoa.

Isn’t it the consumer lending sector that’s at the crux of the nation’s economic problems?

As it turns out Arsenal’s investment, one of two recent deals by the New York private equity house, is predicated upon serving the borrowing needs of consumers with excellent credit ratings, five or more years of credit history and a good payment history. The San Diego–based company, which has also secured backing from Merrill Lynch, allows borrowers that meet its lending requirements to take out unsecured loans with 6.2% interest rates that range from $10,000 to $100,000 for any number of purposes — home improvement, vehicle purchases, education and medical expenses, refinancing — serves a different customer base than the subprime community.

That’s not to mean this group of consumers that Arsenal Capital’s Carty Chock likes describe as “superprime” also don’t face credit challenges. Borrowers with high FICO scores tend to get lumped into the same batch as prime rate customers by banks and thrifts, perhaps unfairly so, but they’re also a group that’s very creditworthy and not likely to default much.

The deal with FirstAgain illustrates that with a little creativity private equity firms can find interesting investment opportunities in industry niches that, despite appearing to be out of favor at first blush, offer places to put money to work. Buyout groups need to be disciplined investors, but they also didn’t raise money just to sit on the sidelines. It’s a good thing they’re not.