Business Irish

Saturday 15 December 2018

Richard Curran: There aren't as many vultures circling for a feeding frenzy as we might think

Vultures may have been gathering in Ireland since the financial crash, but some are helping businesses to grow rather than picking over carcases. Stock image
Vultures may have been gathering in Ireland since the financial crash, but some are helping businesses to grow rather than picking over carcases. Stock image
Richard Curran

Richard Curran

It is easy to be left with the impression that Ireland is completely overrun with vultures and there are more of them feasting on financial carcases than you would find in any wild African plain.

The simple truth is there are vulture funds operating in Ireland, but not as many as we are led to believe. In fact, the presentation of Ireland's post-crash economic narrative assumes practically everybody who bought anything since 2011 is some kind of vulture fund. This isn't true.

A vulture fund is defined as a hedge fund or private equity fund that invests in debt considered to be very weak or in default, known as distressed securities. The original vulture funds bought up sovereign debt of struggling countries at knock-down prices and then sued the particular state for payment in full.

Yes, the term has spread to include funds that buy up debt of struggling countries, business or individuals. But its usage suggests people are distorting it and using it all over the place.

Here is one definition of the term "vulture fund".

"The term vulture fund is a metaphor which is used to compare these particular hedge funds to the behaviour of vulture birds preying on debtors in financial distress by purchasing the now-cheap credit on the secondary market to make a large monetary gain, in many cases leaving the debtor in a worse state."

When it comes to hedge funds buying up the mortgage debts of home owners at knock-down prices, which are not available to the original customer, and then moving to evict that borrower, I can see how the term should apply.

But remember, banks are capable of doing the same thing. And as long as there are reasonable protections in place for the customer from both, the fund or the bank, then such a process is at times inevitable.

However, in Ireland we are increasingly lumping in every private equity fund, which invests in businesses, as acting like vultures too.

The most famous case of vulture fund activity was during the Argentina sovereign debt default in 2001. Argentina defaulted on $132bn in loans during a disastrous depression. GDP fell by 28pc and more than half of Argentines were living in poverty. The government of the day negotiated a settlement with its bond holders, which saw a 33pc discount on the debt, and the promise of more payments when the economy recovered.

This deal was accepted by 93pc of bondholders. Several hedge funds, including NML, Aurelius Capital and Dart Management, which had bought the debt cheaply on the market, said no. They pursued their claim for full payment through the US courts and eventually, in 2012, a judge said they were entitled to full payment and they should be paid in full ahead of any of the other creditors, including those who had accepted the earlier deal.

This decision would have seen NML make a return of 1,500pc on its money. Eventually, an out-of-court settlement was reached just a few years ago, which saw NML Capital receive $2.2bn for an investment of $177m - a return of 1,180pc. Argentina also paid the legal fees for the vulture funds.

This was pure vulturism - legal, but rapacious.

The key issue here is that the funds acquired debt rather than the assets or equity in a business. They bought and sold debt. Vulture funds are operating in Ireland where they have acquired debt and used that as a vehicle to take control of any underlying assets.

Remember those anonymous investors who bought $1bn of unsecured Anglo Irish Bank bonds (debt) at knockdown prices and were paid the full original sum by a struggling Irish state? That was vulturistic and happened very early in the crash.

In some cases vulture fund return is derived from just selling on the debt, or foreclosing on the asset and the selling on the asset in a relatively short period of time.

Bear in mind, many of them bought this debt at a time when nobody wanted to invest in Ireland.

And the proceeds from their debt acquisitions either helped Nama pay back debts it owed or helped banks rebuild their balance sheets.

Some vulture funds bought debts owed on Irish commercial property sites and now want to start building houses. That isn't pure vulture fund behaviour either.

This doesn't make the vultures saviours or do-gooders by any means, but not all of the consequences of their arrival has been bad.

Perhaps the biggest offence is lumping in the behaviour of private equity funds with vultures. There are lots of private equity funds which have invested in the Irish market.

Among the differences between the two is the fact that private equity tends to buy equity and make an investment whereas vultures tend to buy debt and they are buyers and sellers more than longer-term investors.

There is also a growing assumption that all of this private equity money is foreign and opportunistic. If a private equity fund buys a business that is in trouble, you have to ask yourself what would happen if it didn't come along.

In many cases, otherwise potentially viable businesses would simply close. We should not mix up the behaviour of private equity funds investing in Irish businesses with more voracious funds that buy a company and break it up to maximise short-term profit.

Many of the Irish businesses bought by private equity since the crash are too small to be broken up and sold off in parts.

Look at some examples of private equity in the Irish market. Carlyle Cardinal has invested tens of millions buying small to medium-sized Irish businesses. It has done this with a view to developing and growing those companies. It is backed by the Irish Strategic Investment Fund (Isif), which is dedicated to providing finance to indigenous Irish companies. Isif is the antithesis of a vulture fund.

Carlyle Cardinal has acquired businesses such as AA Ireland, Lir Chocolates, Payzone and Sam McAuley pharmacy chain. Did it get those assets at good value? I assume it did or it wouldn't have bought them. But it has shown none of the traits of the vulture capitalism in seeking to grow these companies.

Take the Bord Gáis Energy Theatre in Dublin. It was bought by Crownway Investments - an investment vehicle set up by former backers of Jurys Doyle Hotel Group - John and Bernie Gallagher.

They bought the theatre for €28m. This theatre was, and is, a huge addition to Dublin City and perhaps they got it at a good price. But they will not necessarily make a fast buck out of this investment.

Accounts for the theatre show they lent the business the money to do the deal. The loan is non-interest bearing and repayable whenever the company can afford to do so.

The accounts also show it has a hefty depreciation charge every year and made after profits in 2016 of about €6,000. Surely this was a private equity investment with a potential long-term upside for both the buyers and that part of Dublin City on the South Docks. No short-term high-leverage financial engineering going on there.

Private equity funds are not all saints either. In the past, private equity buyouts - deservedly in some cases - got a bad reputation because they used low interest rates to fund highly leveraged acquisitions. The deal was, they borrowed hundreds of millions or billions, to buy a company and then loaded up the money they borrowed on to the company's balance sheet.

This business model was based on being able to borrow at a cheap rate to do the deal and keep re-financing the debt. Companies were often left in worse states than when they were bought out.

The classic Irish example of this is Eircom. Australian private equity fund Babcock & Brown bought Eircom and then loaded up the company with €3.7bn of debt. Multiple refinancing ensured the investors got back the equity they had put up to buy the business but ultimately, Eircom ended up in examinership.

This was a kind of 'vulturish' private equity which arrived in Ireland before the crash, not after it.

I have never been a defender of vulture capitalism, but we should at least be able to identify it properly when we see it.

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