Tuesday, December 12, 2006

Sabre and Private Equity Buyouts

The announcement today that two private equity firms are buying out Sabre is part of a bigger trend. Over the last two years, investors have been putting billions of dollars in private equity firms. Recently private equity has bought out firms with such well known brands as Clear Channel, Readers Digest, Eddie Bauer, Burger King, Hertz, Domino's Pizza and AMC Entertainment. What is behind this trend? There are two camps of thought. The first highlights the benefit of removing a company such as Sabre from public scrutiny where financial details are required to be shared as a publicly traded company. The other view of this trend is a bit more skeptical. One needs to remember that the private equity buyouts are intended to provide a profit for the equity investors. This is often realized when these buyout companies are in turn sold. The first step the equity owners take is to cut expenses at these companies. Often, private equity firms borrow money to buy a company and then keeps on borrowing. The private equity firms can borrow the money in the company's name and then can keep the money themselves. This saddles the company with the debt while the private equity firms continue to siphon money out of these companies. This is all fine and well as long as the company continues to bring in a substantial cash flow, but if things change the heavy debt could be a problem. So which scenario drove the Sabre deal? When private equity offers an acquisition price above the current stock price, companies such as Sabre have no choice but to accept the offer as the short term benefit to shareholders is clear. As with the Blackstone buyout of Travelport and the subsequent purchase of Worldspan the jury is still out on whether this will truly be good for the travel industry. My concern is that with the focus of private equity in cutting costs, the new owners of Sabre, Galileo and Worldspan may decide to eliminate needed R&D and slow the process of moving off legacy mainframe technology to more open systems.

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