Everyone wants to access a new class of private assets. Here’s how Apollo helped create one.


When Dominic Bagnoli, executive chairman and former CEO of US Acute Care Solutions, started talking to a handful of private equity, health systems, and strategic buyers last September, he had two options. One was to sell the whole business or merge it with a strategic buyer. The other was to find a way to buy out private equity firm Welsh, Carson, Anderson & Stowe, which bought a 30 percent stake in the acute care provider in 2015.

Bagnoli, an emergency doctor who founded the doctor-owned organization in 1992, was not in the habit of giving up control. In fact, nearly thirty years earlier, he had built the company around his core belief that patients were much better off turning to a surgeon, who owned – and controlled – their practice, rather than trusting someone. one that worked for someone else.

Weeks after meeting with a group of potential buyers, Barclays investment banker Richard Landgarten convinced Bagnoli that he should meet Apollo and listen to them. Bagnoli believed he would get a better deal from a strategic buyer, but Landgarten said Jason Scheir, partner and head of US hybrid value at the private markets firm, had heard of the US Acute Care process and had more in mind than controlling equity. .

Scheir told Bagnoli his company would not have to relinquish control. And Apollo would still provide strategic growth advice and capital to make acquisitions and fund other long-term initiatives.

“It’s hard to thread that needle to get the capital so that you can deliver the care and services that the health system expects and communities deserve, with the scale and efficiency that will be needed,” said Bagnoli. “And stay in control, right?” Lots of companies have tried to do this, and it’s usually easier to just put your hand up and say we can’t be in control anymore. But we’ve always been willing to bet on ourselves, so why change that now? ”

Before closing the deal in February and after months of Zoom calls, Bagnoli flew to New York and met Schier and the team face to face for the first time. Under the deal they made, Apollo would invest up to $ 470 million in preferred stock and US Acute Care Solutions issued $ 375 million in bonds to refinance the debt and buy out Welsh Carson. Shareholders got cash and the company got capital for its growth plans. He has already made an acquisition.

The agreement with Apollo illustrates the evolution of private lending in an environment of heightened competition – and Apollo is not the only company seeing the opportunity. Other private equity firms, including Blackstone, have started offering a new form of corporate capital that sits somewhere between credit and private equity. In credit market jargon, this means transactions are around 50-80% of the loan value. This is a fundamental change in the industry, providing access to capital and flexibility in entering into agreements that do not require management teams and boards of directors to relinquish control of their activities. .

Apollo’s hybrid value business, created in 2018, was born out of two big changes the company was facing.

On the private equity side, CEOs wanted access to capital to deleverage or expand factories, without having to sell control of their businesses.

A chemical, financial, or media company, for example, would approach an Apollo partner, whom they could have worked with for a decade to grow the business, and tell them that control was not on the table, but that she wanted to structure an agreement. Most of these special situations were refused.

“Back then, our platform was basically credit – spread – private equity,” said Matt Michelini, the company’s co-head of hybrid value, speaking to Institutional investor at the Apollo office in New York. “The problem is, PEs only had one tool in their toolkit, which was, ‘Do you want to go private? “”

Meanwhile, Rob Ruberton, who is co-director alongside Michelini, said Apollo’s credit business faced narrowing spreads and lower yields as direct lending began to mature as a asset class. Target returns for something like the mezzanine rose from 12% to 14% during the single-digit financial crisis.

“So what we started to do in our lending business was think, what if I offered the borrower, not a debt obligation, but something more like equity; something structured more like a convert, or preferred, where there’s still a decent coupon, but with a few equity kicks, ”Ruberton said.

Ruberton and his team initially put some of these new stocks in Apollo’s higher yielding credit funds, but in the end the company had to launch a dedicated strategy.

An investment manager for an endowment fund, who spoke to the co-managers, said that from an allocator’s perspective, one of the attractions of flexible investments like Apollo’s is that managers can enter into the types of transactions that match what is happening in the larger economic world. In March and April 2020, when the pandemic hit, investors could have bought some assets at discounted selling prices, but the opportunity was short-lived as the markets returned.

“Take the troubled funds right now: managers can’t sit on all the money they’ve raised for too long, so they have to close deals, whether there are good ones, no,” said the IOC. “This is not a new problem, but there has to be a solution.”

Right now, with strong capital markets and high spending by governments and consumers, the strategy is suitable for CEOs looking for partners to help grow. “Today almost all companies play on the attack,” Michelini said. “The capital markets are feeling good; there’s a lot of spending, a lot of mergers and acquisitions going on. But they don’t want to issue direct shares – it’s too dilutive. They are happy to take structured actions and bring in a partner to help them navigate the growth. “

The hybrid unit of value transaction with Albertsons Companies before its IPO in late June 2020 was a growth game as grocers benefited from people locked in their homes. Albertsons was also to replace Cerberus Capital Management, longtime owner of the private equity, which was to return money to shareholders. Knowing that profitability would decline at some point as the bottlenecks were lifted, CEO Vivek Sankaran wanted Apollo’s help with other ideas for growth.

“They’ve been a fabulous observer and investor on the board because they also understand how they can add value, like putting us in touch with the right people or giving us a macro perspective. Yet at the same time, they know where their line ends as an investor and where our line as a management team begins, ”said Sankaran. II.

As Ruberton explains, hybrid value offers companies and investors an alternative to private equity.

“We can give you access to the same resources that you can get from a private equity fund, but we don’t need to control your boardroom,” he said. For example, CEOs can get help developing their sales force, implementing company resource planning, and supporting HR departments, among other company resources. Investors, on the other hand, benefit from downside protection that they would not have in a private equity fund. The Apollo team, for example, cordoned off Albertson’s valuable real estate, in case the company got into trouble.

“From a management team’s perspective, it’s not much different from PE,” Sankaran said. “I watch it because I have Apollo as an observer of the board of directors and a significant investor in the company. Yes, with preferred stocks I am paying a slightly higher dividend at the moment, but it’s probably temporary as preferred stocks are likely to convert to common stock over time.

So far, the hybrid strategy is working. According to Apollo’s most recent revenue, the hybrid stock had a gross internal rate of return of 29% and a net IRR of 23%. It also works for Apollo, whose assets recently hit $ 13.1 billion, also reported in earnings.

But as the head of alternatives for a mid-size pension put it, even if the strategy is not “so far off the beaten track”, it still does not have a natural home for some dispatchers.

“My response is that is why you should do it,” Michelini said. “Because this point of view is shared by many LPs around the world, which means there isn’t a lot of capital for this asset class. “


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