In my world, mergers and acquisitions and corporate finance, we witnessed a unique phenomenon during the 2005-2007 period as many new sources of financing became available to support the rapidly growing Private Equity community. Loans were syndicated at a furious pace and specialized finance entities, many supported by hedge funds, aggressively provided capital with a speed and at risk levels not seen with traditional bank lenders. Second lien and “tranche B” paper became the norm.

Much of this paper was ultimately securitized through issuance of collateralized loan obligations and similar instruments. Some have estimated that this resulted in an increase in credit availability of at least 25% above levels that would have been possible if the market had been restricted to traditional sources such as banks and asset based lenders. The net impact was a dramatic decrease in the cost of capital, with loan spreads contracting by several hundred basis points and a sharp relaxation of underwriting standards. Lenders routinely provided senior debt at five times cash flow to companies and deals that would have only supported two and a half to three times cash flow a few years earlier.

As a result purchase multiples increased dramatically and companies that might have been worth six times cash flow earlier in the decade were suddenly worth eight times cash flow or even more. The worm has now turned and deal loans, if available at all, are being underwritten at more traditional levels and more traditional pricing. Purchase prices are beginning to come down, though the full effect will take some time to play out as sellers remain in denial.

What we witnessed in M&A was mirrored throughout the economy, certainly in housing finance, but likely in many other areas as well. From 2003 through summer of 2007, a significant portion of the credit boom was funded through what Nouriel Roubini has described as the Shadow Banking System. By Prof. Roubini’s definition the Shadow Banking System comprised approximately $10.5 Trillion in 2007, including $2.2 Trillion of commercial paper conduits, $2.5 Trillion in the repo/reverse repo market, $4 Trillion of brokerage assets and $1.8 Trillion in hedge funds.

For analytical purposes I believe it makes sense to define Shadow Credit even more broadly to include various other financial institutions, conduits and debt markets not regulated as banks. These sources of credit and liquidity include private equity groups (PEGs), finance companies such as GE and Allied Capital, mortgage backed securities (MBS), structured investment vehicles (SIVs) , collateralized loan obligations (CLOs), collateralized debt obligations (CDOs), Fannie Mae, Freddie Mac, etc., etc. Many of these vehicles have been supported by credit default swaps (CDS), further leveraging their impact on the monetary system. While in theory these private institutions do not have the money creation ability of deposit taking banks, collectively they had the effect of creating money-like liquidity not captured in the traditional monetary aggregates. I will refer to the combination of traditional money and these new sources of liquidity as the Effective Money Supply.

The growth of these alternative credit and liquidity sources during the current decade has been so significant that they can no longer be ignored in formulating monetary policy. At a minimum, using Prof. Roubini’s definition, Shadow Banking is 40% larger than M2 and more broadly defined Shadow Credit may be as much as three times M2 (i.e. well in excess of $20 Trillion). To date there is no recognized monetary aggregate that adequately measures the impact of this Shadow Credit on the Effective Money Supply and as a result policymakers have focused on the measuring tools at hand such as M2. Using its traditional tools the Fed allowed moderate growth in M2 from late August 2007 until late August 2008 at an annual rate of approximately 5.4%.

Given the inflationary pressures at the time, this appeared to be a logical response, neither too accommodative, nor too restrictive. However, from late March until early September 2008, the Fed conducted a more restrictive monetary policy with essentially no monetary growth, presumably in an attempt to soak up perceived excess liquidity created around the time of the Bear Stearns collapse.

Taking this same data and applying a new lens, we see a far different picture. Assume for the moment that M2 reflects only a small portion of the total credit and liquidity available to the economy, perhaps as little as 25-30%. Assume further that, by applying an appropriate multiplier not yet empirically defined to the non-regulated credit and liquidity that makes up the Shadow Credit System, one could determine a measure of Effective Money (i.e. the total credit availability that drives activity in the real economy). In that case a divergence between the growth rate of traditional money and that of Effective Money could cause significant distortions in the real economy. Such a divergence occurred between August 2007 and September 2008, resulting in a likely decline of Effective Money sufficient to have had a seriously negative impact on the real economy. After August 2007, with the collapse of the syndicated credit market, the creation of new Shadow Credit ground to a halt. Since that time there has likely been a meaningful decline in aggregate credit available in the Shadow Credit System. The collapse of the SIVs alone took $400 Billion of credit out of the system worldwide, forcing many of these entities’ liabilities onto the balance sheets of already strapped banks.

For purpose of example, if we assume M2 of $7.5 Trillion and Shadow Credit of $22.5 Trillion and apply a multiplier of as little as 33% for measuring the impact of Shadow Credit on the Effective Money Supply, the net impact of changes in Shadow Credit would be the same as that of changes in M2. Since there is no agreed yardstick for measuring Shadow Credit and no empirical data as to the appropriate multiplier, the actual impact could be lower or higher, but it is inconceivable that the growth and decline of Shadow Credit has not had a significant impact on Effective Money.

In the above example a decline in Shadow Credit of a little more than 5% from August 2007 to August 2008 would have been enough to fully offset the growth of M2 during the period. My suspicion is that the actual decline was greater. Bringing the analysis to the present crisis, the accelerating decline of Shadow Credit during the period following the Bear Stearns collapse, combined with the stagnation of traditional monetary aggregates, would indicate that Effective Money shrunk significantly from spring 2008 until the onset of the financial collapse in September 2008. Such an effective tightening of the money supply, when the system was already quite shaky, could easily have played a significant role in catalyzing the current crisis.

Going forward I believe that it is critical that the monetary authorities and the academic community get their arms around the impact of this non-traditional money on the Effective Money Supply and develop tools to bring the Shadow Credit System under sufficient control to prevent similar impacts in the future. If not we are almost certain to witness another rapid runup in Shadow Credit, perhaps with new structures and new players, creating the potential for another and even more disastrous inflationary bubble not too far down the road.

Tom Turner is a Vice President in the Principal Finance Group of Deutsche Bank, the world’s sixteenth largest bank ranked by shareholder equity. Principal Finance delivers global expertise across a wide range of markets, industries and asset classes. The Principal Finance group provides leveraged financing solutions to middle market and larger borrowers. It can provide liquidity for both performing and non-performing assets in transactions ranging from $20 million to $2 billion. Acting on a principal basis, DB can execute transactions that otherwise may not be possible in traditional capital markets. Investments take the form of senior, subordinated or mezzanine debt, customized credit derivatives and selected equity.

Focus areas include:

Illiquid Asset Financing

Acquisition financing

Contract monetization

Project/Infrastructure finance in developed and emerging markets

Renewable energy financing

In this interview Tom talks about the current state of the credit markets and gives his insight as to the future course of the liquidity crisis currently underway. Prior to joining Deutsche Bank, Tom was employed on the agency side of the street where he was responsible for managing debt financings in aggregate principal amount exceeding $50 billion.
Length: This audio interview is about 23 minutes long.

Deborah began her M&A career in the late 1970’s with Touche Ross & Co. (a Big 8 accounting firm now part of Deloitte & Touche) and eventually rose to become that firm’s Director of Merger & Acquisition Activities. In 1989 the Deloitte and Touche merger provided Deborah with the opportunity to leave public accounting unfettered by a non-compete. She formed the Douglas Group in St. Louis, an intermediary firm which represents middle market companies as advisor and intermediary in merger and acquisition transactions.

Deborah is the author of an intriguing book called “Cashing In!”, a very down to earth guide to the perils and potential of business sales aimed at business owners, but very relevant to advisors and buyers as well. I really enjoyed reading this book and would recommend that you click on the link above and purchase a copy.

In this interview, Deborah talks about her experience as an M&A intermediary and the obstacles she has encountered as a woman in a man’s world (simple answer – none). She also provides some good insight for any business owner contemplating the sale of her or his company.

Click here to purchase “Cashing In!” by Deborah Douglas on Amazon.

Length: This audio interview is about 16 minutes long.

Getting real valuation data on lower middle market acquisitions by private buyers has always been one of the most elusive aspects of the M&A business. While there have always been a number of data services available that highlight the valuation of most public company deals, these sources provide only spotty information on private transactions.

Our guest today is Andy Greenberg co-founder and CEO of GF Data Resources of W. Conshohocken, PA. GFDR is a relatively young company which collects, analyzes and reports on private equity-sponsored M&A transactions in the $10 million - $250 million value range. The firm has analyzed more than 500 transactions, reported by about 80 private equity firms, and provides industry drilldown data in more than 100 NAICS categories and sub-categories.

GFDR was launched by two Philadelphia-based deal professionals, Andy Greenberg and Graeme Frazier, who were frustrated by the scarcity of accurate data on middle market transactions. GF Data Resources offers its reports to subscribers on a quarterly basis and soon will make detailed valuation data continuously available through its website, www.gfdataresources.com.

You can access publically available summaries of information provided to the GFDR’s subscribers by clicking here. One of the most interesting data points that the company provided in its 2007 yearend report is the chart below, which confirms everyone’s suspicion that 2007 was a particularly good year for sellers of middle market firms, notwithstanding the market downturn in the second half of the year. Purchase multiples averaged 6.3 times EBITDA in 2007 plus Buyer’s Transaction Expenses (BTE) which added another 4.4% to the purchase price or an additional .3 times EBITDA.

Length: This audio interview is about 17 minutes long.

This week’s interview is the first in a series covering financing alternatives for middle market businesses trapped in the credit squeeze. Our guest, Geoff Alexander, is Director - New Business Development for The Comvest Group, a private equity firm that has created a fund called Comvest Capital, to meet the financing needs of growing middle market companies with revenues from $15 million to $500 million. Comvest Capital provides a diverse range of financing alternatives, including mezzanine debt and growth equity as well as unitranche or one stop shop solutions. In recent months Comvest has been quite busy working with companies that have been pushed out by existing lenders that are tightening their credit standards.

Geoff is responsible for sourcing new deal flow and analyzing prospective investments for Comvest. Prior to joining Comvest, he worked as a Senior Associate at hedge fund PDP Capital Investments. Mr. Alexander graduated from Berea College with high academic honors and a degree in Business Administration with a Finance Concentration.

Length: This audio interview is about 19 minutes long.

In 1983 Jim was part of a senior management group that purchased Excel in a highly leveraged buyout engineered by Hammond, Kennedy and Whitney Co. Back then there were no “private equity” firms. They were called LBO shops. Excel was the sort of buyout that most investors can only dream of, growing from $40 million in revenues at the time of the acquisition to a public company with over a billion dollars in revenue at the time of its sale.

Over time Jim’s role expanded into operational responsibly as well as sales. In 1986 he led a strategic project resulting in Ford Motor Company becoming Excel’s largest shareholder, largest customer, and largest supplier. In 1990, he was elected Executive Vice President and in 1992 promoted to the position of President and Chief Operating Officer. He became Chairman, Present and CEO in 1995. In 1999 Jim led the merger of Excel into Dura Automotive Systems, Inc and joined the Dura Board.

Jim is currently a partner in Hammond, Kennedy and Whitney Co., a small cap private equity firm (www.hkwinc.com). Jim is a graduate of the University of Texas at Austin (1969), happily married for 37 years, and the proud father of 2 adult daughters.

Length: This audio interview is about 27 minutes long.

Matching a specific deal with those financial buyers most likely to be interested in that specific deal from an industry, size and risk perspective is a very difficult challenge akin to finding that proverbial needle in a haystack.  Our guest today, Michael Wolverton has developed a unique approach to meeting this challenge.  Michael is the founder and president of Cathedral Partners located in the Philadelphia suburb of Conshohocken.

Cathedral enhances communication between private equity firms and intermediaries by creating a platform that allows for confidential, controlled and efficient communication between its members.  By acting as a single connectivity point for buyers and sellers, Cathedral allows intermediaries to expand their reach while allowing private equity firms to augment their deal flow.

Prior to founding Cathedral Partners, Michael was responsible for leading the business development efforts of LLR Partners, a $620 million private equity firm based in Philadelphia. Before LLR, Michael served as Vice President for Penn Capital Management, a $4.5 Billion asset management firm. Michael received a BS in Finance from the University of Pittsburgh.

Length: This interview is about 17 minutes.

Like many of you in our industry, I have spent the last month trying to understand the impact of the credit squeeze and the equity and debt market declines on the M&A market.  I don’t purport to have the answer to where the stock market will be next month or even whether we are going to really have a recession (though my personal guess is that we’ve been in a mild contraction over the last ninety days and if we’re lucky we may already be nearing the end of the slide). 

What I do see clearly is that the current events are part of a much larger picture in which the U. S. economy has become a major player in a multipolar world and no longer the dominant economic factor in the world scene.  For an interesting perspective on this subject, read Parag Khanna’s article in the January 27, 2008 New York Times entitled Waiving Goodbye to Hegemony. 

Even more important to our industry is the coming emergence of the transnational corporation as a dominant force in world economics.  I purposely use the term transnational rather than multinational, because these future behemoths will no longer be tied through ownership or political control to any specific nation or even any specific regional bloc.  Their operations will be spread around the globe reflecting customer markets and the comparative economic advantages of specific regions such as the relative price and availability of various inputs, including labor, capital and raw materials and the relative friendliness of various political regimes.  Headquarters can be anywhere or everywhere and the country of incorporation will depend on factors such as local tax policy and the availability of a supportive legal system.  What all of this means to our political and social institutions is best left to others to decipher.  What it means to us is that over the next fifteen years we will witness a pervasive wave of cross-border M&A.  In industry after industry it will no longer be sufficient to be the leader in a local market, country or even region.  Success will require global presence and global presence requires consolidation.

At Focus LLC we are witnessing the early stirrings of this trend today in our own practice.  Over the past year and a half approximately half of our closed transactions involved a non-U. S. buyer from countries as diverse as India, Germany, Portugal, Sweden, the UK and Canada.  Doug Rodgers, Focus’s CEO, recently published an opinion piece in the Washington Business Journal entitled “Fear not the Foreign Investor” in which he makes the case that overseas investment in the U. S. economy is not only a reality of the current world, but is good for our economy.  In this week’s interview Doug expounds on his ideas in this regard and provides an overview of the new world of transnational M&A.

 Length: This interview is about 21 minutes.

M&A doesn’t exist in a vacuum.  Companies succeed and fail and fortunes are made and lost based on how well their leaders pick the waves.  Choose right and you ride the pipeline all the way to the beach; choose wrong and they’re picking up the pieces off the rocks.  Acquirers must be aware of the larger trends taking place in the industries in which they invest and elsewhere in the economy that can impact the fortunes of their portfolio companies and equally important the market’s perception of their value.

Phil Leigh is one of the most insightful observers of an industry that is radically transforming the ways we work and play.  Phil’s initial training was in electrical engineering at the Florida Institute of Technology and he subsequently received an MBA from the Kellogg School.  As a respected securities analyst with First Boston and Raymond James in the 1990’s, Phil was one of the first analysts to focus on the then emerging world of the Internet.  He chronicled its growth from an obscure technology to one of the prime drivers of an increasingly globalized economy; he witnessed firsthand the Bubble and the rubble that followed. 

In 1998 Phil began to conduct online interviews of industry leaders via the nascent medium of Internet Radio.  Over time these efforts migrated into a full time endeavor called Inside Digital Media (www.insidedigitalmedia.com).  Several times a week Phil interviews leading companies in and observers of the Digital Media Industry, covering all aspects of Internet based entertainment and communication and the technologies that support them.

The rise of Web 2.0 - the migration of applications, processing and data storage from the desktop and local network to the Internet - has led Phil to conclude that we are now in another period of major realignment within the technology industry.  As with the transformations that occurred when computing moved from mainframes to desktop PC’s and when the rise of the Internet connected all of us to the worldwide digital communications web, there will be big winners and big losers this time as well. 

Phil has developed a very compelling theory that the winners in this era will center on several emerging Web 2.0 platforms.  He focuses on Facebook, SalesForce.com’s Force.com development platform and Webex’s Media Tone network, but is quick to say that the jury is still out - some of these may falter and other platforms will almost certainly be developed, with Google and Microsoft likely candidates to try.  All of this is outlined in much more detail in Phil’s article, Gravitation Attraction in the Internet Cloud, which can be downloaded by clicking here.

Length: This interview is about 25 minutes.

In this interview Steve tells us how he transcended the sometimes mundane world of investment banking to become a world renowned author.  He also shares with us insight into his “day job” as a Managing Director of the private equity firm, Albion Investors of New York City and Richmond, VA.  Albion focuses on what Steve describes as “MicroCap” deals, which I frequently describe as “people sized companies”.  As an experienced dealmaker Steve shares his advice for business owners who are considering the sale of their businesses.

Steve is a Wahoo, having graduated from my alma mater, the University of Virginia at Charlottesville, with both an undergraduate degree and an MBA from the Darden School.

Click Here to purchase books by Steve Frey on Amazon.

 Length: This interview is about 22 minutes.

Recently an enterprising group of attorneys, members of the Committee on Negotiated Acquisitions of the American Bar Association’s Section of Business Law, decided it was time to take action.  By creating the Private Targets Mergers and Acquisitions Deal Points Study and a companion Private Equity Buyer/Public Target Mergers & Acquisitions Deal Points Study, they have taken much of the guesswork out of the negotiating process.  Knowing that fewer than 15% of acquisition agreements contain indemnification caps above 50% of purchase price saves a lot of time when seller’s counsel is arguing with an intransigent buyer’s counsel who claims with great sincerity “that’s the way its always done”.

Michael Hollingsworth participated in producing both the the Private Targets and Private Equity Buyer Deal Points Studies and shares his knowledge of how they can be used to make the negotiating process more efficient.  Michael is a Partner in the Atlanta office of the Nelson Mullins Law Firm and one of the leading M&A attorneys in the Southeast.

 Length: This audio interview is about 24 minutes.  

In this interview Mark gives us a preview of Intergrowth 2008. He also provides a glimpse into his world as a partner in River Associates Investments, LLC, one of the leading private equity groups focused on the lower middle market. Mark shares with us some very valuable insights into what makes a company attractive to a private equity buyer and advice to business owners considering the sale of their business.

 Length: This audio interview is about 41 minutes.