Middle-Market Debt Has Ballooned in Recent Years, Kahn Says

He is the managing director of Lincoln International and he's based in Chicago, but he joins us here in our eleven three oh studios. Ron always a pleasure, Thanks for being here. You know. Maybe let's just begin with something called the Lincoln Middle Market Index. Tell us what it is, and then we'll get into the issue of valuation and privately held companies. Great, okay, So you know that Lincoln

International is a middle market investment banking firm. In addition to our M and A and ad advisory capabilities, we have valuation capabilities as well. And the valuations are basically for non bank lenders. If you remember two thousand and eight two thousand nine, the world turned upside down. Banks got out of middle market lending. Nin banks got involved UM public BDCs, private d BDCs, private debt funds, and

most of them need valuations. UM. They need it because if they're public, they wanted UM conform with SEC regulations. If they're not public, UM, many of the more leverage and their lenders to the to these lenders also one valuations. Results of that, we have this a massive amount of data on privately held companies. Basically we've been doing this. In two thousand and eight, we have seventy nine bank lenders.

We do about twelve portfolio companies every quarter. And as a result, we as I said, we have all this financial information. We've been doing reports on the number of companies that show earnings growth year over year, revenue growth year over year. That we've done and other people have done that. But we thought, at the beginning of year, what happens if you could create an index, an index that depicts the value of middle market company's enterprise value,

so that's earnings plus they're multiple. I had no idea how to do it in next I mean, that was like way beyond me. But we wound up collaborating with Steve Kaplan, who is a professor at the University of Chicago Booth Steve. Steve is probably the pre eminent expert on private equity. He brought in one of his colleagues, Mike Mennis, who's a professor of accounting, and they figured out the man. They looked at all the statard and

said we we can pull this together. So about ten ten days ago we came out with this Lincoln middle Market Index, which again um depicts the the enterprise value of an average middle market company mental market companies. We we defined for the index as companies that have an EBA d A of a hundred million dollars or less. But the average in this is twenty seven eight million dollars um in EVA d A and there's about three

hundred and fifty companies in the index. So ron before we get to uh, just the valuations themselves, I would love for you to give us a sense of how much this market of middle market corporate debt and company equity, how much it's grown, because, as you mentioned, business development companies are a big buyer of these companies, but it's not just them. Private equity firms are getting into private debt, so were hedge funds, were insurance company. This has been

Holy grail increasingly. So how much has this market increased. It has increased exponentially and and and some of it has replaced the banks, the mental market banks, so so many of them used to be lenders to private equity firms, to these mental market companies, they pretty much have have exited the market. Interestingly, happen to be very big lenders to these new private dead funds, these um or or

or BDC. So they might almost have as much money in the middle market today as they did before, but in a different um in a different aspect. But but the the number of these we we probably have when on the dead advisory side, we probably could go to oh, I would say a hundred and fifty hundred and seventy non bank lenders today. That that's that's how big the universe is. What is the bias of the non bank

lenders when it comes to valuation? Um, well, that I think that I know I'm putting you on the hot seat a little bit, but but I think it's you. It's useful because they were also they have to respond to the market dynamic, right, I mean they can't just ignore what their investors are looking for. Um, that's right. I mean many many of these are SEC reporting entities, so they do want to play it down the middle. UM and I and I think, as I said, we

do to hundred portfolio companies every quarter. I think I think our clients are very very um honest in what they're reporting. I think they do a really good job because you know, the consequences are just they're staggering. So I think I think everybody wants to play it by the book. So you said that there are a hundred seventy five uh non bank lenders that you could go to, what's it up from say five years ago? Oh, probably in two thousand a, two thousand nine. I bet they

weren't more than thirty. I mean right right right now there there there there are fifty five sixty public b dcs, up from probably in two thousand eight business development corporations right through the new and the newest private b dcs. They are just um phenomenal. So I I think you probably have close to UM nine billion. I think is the last time I saw between public and private b dcs.

Asset under management and I can't imagine that that it was much more than twenty billion and two thousand eight, So it it it has been exponential. Are you concerned about the lending standards considering how much money is chasing companies? I? I, UM, that's a really good question. I mean lending it is

certainly a borrow is market today. UM. The one thing that I think is is a governing factor is we see that debt as a percent of total enterprise value is still in the sixty six range, which means there's about thirty equity below them um in terms of enterprise value. Now, the flip side of that is, enterprise values themselves are are rather frosth because multiples have gone up considerably UM debt today, and it is not uncommon for companies to

get six times leverage UM. Middle market companies againting five to six times leverage, and and and and and I will say, what what does concern me a little bit? Proform adjustment. Most of these companies are lending a selling off of proformer adjustments. Ron Com thank you so much for joining us, Managing director of Lincoln International based in Chicago, but joining us here in our eleven three oh studios. This is Boomberg. Well, turmoil in Germany will not end

that soon. The latest news just crossing the Bloomberg Now. German Chancellor Angela Merkel said she would prefer to go ahead with new federal elections rather than try to form a minority government. Uh, she is weighing her options after the collapse of four party coalition talks late Sunday. Here to talk about the implications of this is Kit Jukes. He is chief global FX strategist for CETE General. He's coming to us from London. Kit, thank you so much

for joining us. You know, there was a little bit of weakening in the euro initially last night as we got news of four party coalition talks breaking up yesterday. That has reversed. But this latest bit of information might change the picture. What's your take. Yeah, this latest piece will see the eurocon a little bit of pressure again. You know, there's obviously going to be a lot of

uncertainty that there's I guess potentially four outcomes. You know that they continue or they've resumed the coalition talks and this Jamaica coalition revives itself. I suppose that's still technically possible, or you can have a minority government, which Angler Michal says she's not planning at the moment where she remains as chancellor and relies on presumably the FDP to to

support her when she needs support. On on an ad hoc basis, that would have looked like very little change to an outsider who would have had significant domestic implications. But it would have been the kind of government you might have seen various other bits of Europe. And I think that's what was giving the market caused to say, look,

this isn't this isn't concerning us too much. We've never had we've never had a minority government in Germany since the sort of modern times, since since the Second World War, I don't think, and we've not had fresh elections to try to solve the problems that way over that period either. But that's the other alternatives, so and will continue with

the uncertainty. I still, you know, when we look at the potential outcomes for markets, if the foreign stange markets relatively insucient um, the fixed income market equally, so it hasn't had a significant impact on on European government bonds. It's not making people nervous. The European central banks sits behind the markets and keeps things calm. The economy is

moving ahead in Germany, is moving ahead in Europe. So the fact that there's political uncertainty, in fact, stability and status grow, which is all you get with this inability to form a government. It isn't isn't the worst thing to do, you know, to see, but I think the markets they will be nervous until they know what does come out, and I suspect we might be sort of

grindingly increasingly nervous over the next few days. Just to tell people, why is it called the Jamaica coalition and has to do with the colors of the Jamaican flag. I'm going to really have to work hard in terms of the colors of the Jamasic coalition. But it's the it's the black, red, yellow, green that you get to get a coalition of the correct of the right, so you get the free Free Democrats are the are the yellow right and the green obviously the green and the

Christian Democrats are the black. The Free Democrats their pro business. What do they not like or what do they like about the potential coalition or does it have really to do with migration and immigrants more to do with migration policy. I think that there were accusations within the coalition talks that they planned for a while to be pulling out and that this was a um, you know, an imprompt a move that seems remarkably well planned, if that's the

right way of putting it. Um. So, it was always going to be hard to get them in, and they they in a sense, would be the ones who would be happiest with um with continuing with a minority government is saying, right, there are things we don't like, but we'd quite like to have power, and just we're not going to promise a coalition deal where we find up

certain things will vacue on an ad hoc basis. Kid, Is it fair to view the latest developments in Germany through the lens of populism and sort of the increase that we've seen in this populist uprising, whether it's the US, or whether it's Italy or Spain or or wherever? I mean? Is it basically another iteration of that, but this time

in Europe's most important economy. Well, if we have, if we have another round of elections, I think most people would expect that the big winners would be um the f D party, so the most populist party, and so it would certainly be interpreted that way. I'm part of me wonders whether this is about populism or whether this is about a push away from traditional parties. Um, you could argue, you could argue whether President Trump is populist

or isn't really a Republican. He's just flying under the flag. And it's remove away from the sort of heart land of the policies of of of your two main parties in the States and likewise in other countries. So we know, we could we could argue about the terminology, but it's certainly away from the accepted established over the last fifty years sort of order of which are the big political parties,

into something that's got a populist element. But it's also i think much more, much more uncertain, much more fluid changes a lot. Wouldn't you expect to see you sell off in European sovereign debt um, Yeah, you know, that is more of a measure of uncertaintyan anything else. And what's happening even now as we speak staring at my

screens is um. You know, Spanish and Italian debt is out performing slightly German government today, So m you know, when it's not risk aversion, it's more the Germans are doing less well than the others, which looks like stability from from most angles. So you know, you want to remember that we've still got the European Central Bank buying government bonds on a regular basis and standing by the

market and has negative interest rates to underneath it. So um, you know, when everything's difficult, there aren't very many government bonds to sell, and and that is almost coming back to the core of it. At this point in time, the European Central Bank is is what matters most. The euro is weakening on this news against the dollar now at one point one seven. Do you think that it will continue to weekend through year end and kind of give rise to strengthen the dollar. I'll give you about

twenty seconds. We've been stuck between a one one eighty range for almost so long I can't remember or dream of a life outside that. I think we'll still be in that range at Christmas. I'm a bread, thank you very much. A kid. Jukes he is chief a global effect strategist for Association or EL. He's joining us from London and just to note that the European Central Bank President Mario drag will be appearing before a committee on

Economic and Monetary Affairs in Brussels. I want to turn our attention now to the world of automobiles, and we have Kevin Tynan. He is the senior autos analyst for Bloomberg Intelligence. Kevin bob Lutts, the former GM chief executive. You know, he's been skeptical about Tesla uh and their future for a long time, and he retired from General Motors. UH. He also worked obviously for Ford and Chrysler and BMW, and I believe he's got some very specific comments when

it comes to Tesla. He says, boy, the future does not look good. Uh. He says Tesla is doomed. Why do you think he says that, Well, just because of the financial condition and the company. UM. You know he talks about it where you you know, you can't cover your cost of manufacturing. Uh. They've had access to capital basically for free, and it's just not a sustainable model. And the idea that I think the company gets valued

as if it's a technology company. And I think Bob Lutz knows at the end of the day, they are manufacturing, and it's expensive to do so, and you have long lead times. Uh. So there's the is a company that's not being valued as an automaker when what they're doing is making automobiles. All right, So let's dig into some of what it's making. Tesla just announced to Great Fan Fan Fair trucks, autonomous trucks and electric trucks, and uh.

There is some speculation, Kevin, that they are pre selling these trucks years ahead of their actually being made in order to raise money to continue production of their current orders rather than have to go to the public markets through Wall Street. Do you think that there is much truth to that? There's there probably is some truth to that.

I think at the end of the day, though, what what they will need in the next capital rays will be sooner and much a much, much larger scale than what they would get through these you know, thousand roadster uh deposits. Uh probably somewhere in the ballpark of two billion dollars. You know, if you just look at their cash burn run raid and what they have in the bank, Uh, you're probably looking at miden where you know, and that's assuming running it right to the edge. UM. And I

think one thing that they didn't do. They've had that one profitable quarter of that third quarter last year, UM, and they didn't go right to the market then. And it's more of an issue of you have this fanfare from the truck and the roads to UM and you know you're gonna need to go back. I would be doing it now while the hype is high, although the stocks down big today. UM, you know, sort of doing it when you can instead of when you have to. So let's talk about a legal threat that they have.

Just to sort of put that two billion dollar potential capital raise into context, there is a four point seven billion dollar legal settlement that could be coming up for Tesla. We haven't heard that much about this. Do you care about this? Um? Yeah. There's a lot of noise, UM, you know, from a lot of different parties, and and you just think about uh, you know, the union, U,

A W trying to get in there. You know. So it's I think you really have to be careful and sift through that, he said, She said kind of things

that go on around this company. And really what I try and do in that case is is get beyond you know, that noise, the noise of this truck and roaster and really get into what this what it's going to take for this company to get Model three out and delivered, um, you know, because that's the core business that's going to enable them to fund all these other projects. And really until that happens, there's a lot of this

other noise going on. Well, I wondered, Kevin, if you could just speak a little bit about the credibility that Elon Musk has, because in July when they announced the Model three, they were anticipating a production rate of about twenty thousand cars a month by the end of December, And I read a couple of notes over the weekend that said that Tesla produced two hundred and sixty Model threes in the last quarter. That's three a day. Yeah, and and it's really a different world in that sense him.

You know, we we think back to you know, Ala Molally and and you know, even yeah, you know, you know, uh, you know, under under promise and over deliver, and then this is really a very different scenario areo. You know. But at the end of the day, I think the people that are are long the Tesla stock will say, well, it doesn't really hit that many targets but he gets

there eventually and what he does deliver is really good. Okay, but if you were able to if you did this at let's say GM, which I think, what are they selling how many vaults of five thousands? Well they did about last month yea, so um no, But you're right to your point. There's a lot of things and and

even electric vehicle technology in the first place. If you remember, early in the early days of Model Left, there were some fires just because of the battery chemistry, where I think investors looked at General Motors and Ford and said, how come you guys aren't doing this, And they said, look, if we put cars out there that went on fire, we'd, you know, we'd be crucified for that. So we're waiting for the technology to develop to where we can put

vehicles out there safely. Autopilot as Tesla calls it. Is another thing that General Motors could not get away with any deaths in that we see what happens with the ignition recall and what happens there the sort of idea of beta testing on your customers. General Motors, Ford, Fiat Christ are all the big manufacturers, the global manufacturers, Toyota,

couldn't get away with that. I'm just wondering when you said about the people who are sticking with Tesla, I mean, isn't a big part of this that the people sticking with Tesla or Elon Musk himself that he owns a good proportion of the shares. Yeah, absolutely, absolutely, but there is a very loyal I mean, he in an industry that is seen as company dinosaur companies. You know, he's he's a breath of fresh air because his vision is

sort of unlimited. Um, you know, so, I think there's there's a lot of believers in that sense that that he's a disruptor and that this is the new Norman. This is the kick that the auto industry needed, right. Kevin Tynan, thank you so much for joining us. Kevin Tynan is our senior autos analyst for Bloomberg Intelligence. He's coming to us from our b I headquarters in Princeton,

New Jersey. Marvel Technology has agreed to buy the chip maker Cavium for a cash and stock deal valued at about six billion dollars, and this will set up more competition with industry giants such as Intel and the Broadcom Here to tell us more about This is ed Hamming, our deals reporter for Bloomberg and ed uh, this seems like a bid to really consolidate not only the semiconductors that are used for data storage, but also communications and

networking chips, because that is Caviums hotspot, right exactly that and that's that's really the key to this deal. I mean, if you if you want to think about it like this, this is really Marvel buying future. Because my vows business is in hard drives, which obviously you know, we use less and less. It's it's very slow growth, it's fairly stable, but what they don't have is anything that would take them into sort of the modern era in terms of having,

as you say, sort of networking processes. So that's what they get through this deal with Cavium, which is why you're seeing it's you know, it's a fairly healthy premium. But also crucially you've seen Marvel's stock rise quite a lot this morning on the back of this news. All right, so let's talk about that premium. I mean, as we've been talking, this has been a very active year for

chipmaker consolidation, at least discussions of such activity. And I'm just wondering, is anyone questioning the prices that are being paid. Marvel is shelling out or has agreed to shell out about six billion dollars for Cavium, which, as you say, is a premium. Is anyone saying it's too much at

this point? They're not. There's so much consolidation in the space that you know, I think investors are rewarding those companies are going out and acquiring because it's sort of acquire or be acquired, and so there is some sense that, look, Marvel does this deal now with Cavium, but that doesn't actually take Marvel off the table in terms of being

a takeout targe itself. Um, and you saw on a much much larger scale just a few weeks ago, and Broadcom obviously announced the deal for or an offer for Quidcome. I should say that value the company at a hundred and five billion, which seems like an absurdly large amount of money. Even then you saw Broadcom shares rise quite a lot on the back of that announcement. I'm just wondering, you know, in five years, are we going to view this as exuberance that perhaps has the tint of a

rationality just because typically, desperation does not make for good deals. No, it does not. And look, you could say that across the market at the moment, I think we're seeing in every sector sort of heavy, heavy number of deals and and high price is paid. And you know, these are premiums on top of what are already historically sort of

absurdly inflated levels in the stock market. So you know, with the benefit of hindsight, a lot of these deals and I don't limit this just to the semiconduct space. I think a lot of these deals will be called into question the amount of people paying. But the thing worth mentioning here is that you know a lot of the consideration for this is in the form of stock. So if you are Marvel, it's like, you know your currency is inflated, you're paying a full premium for someone else.

But hey, you know, as long as you're a value, that doesn't matter. I was gonna say forty six billion dollars, right, that's the price tag I believe for qual Calm wanting to buy n XP, which I believe they just got the Japanese approps approval, right, so that may go through. And then as you just describe, you've got broad Calm making this bid for qual Calm, So in a sense, Broadcom will own if it's successful, they'll own qual Calm plus n XP and that's a one hundred and five

billion dollars. But there's news out that one of the larger owners of I believe qual Calm stock says give us at least ten percent ten dollars more per ten dollars more. Right, So, our colleagues in San Francisco did this great story that came out this morning where they've talked to a number of the big institutional investors in Qualcom to sort of say, well, look what what would

knock this over? What would be enough to get you guys to agree, And yeah, it sounds like a ten dollar or they're about it's bumped from where we are now would be enough, Which again, look that's a huge, huge price and a very high multiple. But Broadcom has built itself up through acquisitions and it's if you look at broad up chairs I think they're up sort of you know, in the region this year. So this is something investors not just in this space but across the

market are rewarding those companies that go out and do deals. Alright, ed, Well, this consolidation does have a potential loser, right, because if these marriages end up with bigger chip makers that have better pricing power, isn't that a problem for carmakers and for Apple? I mean, who's the biggest loser here? You know, Apple is almost a sort of outlier because they have so much power themselves as we're seeing them. They're sort of litigating with Qualcom at the moment. But I think

you're right. For the smaller customers, this is potentially a problem because you're seeing so much consolidation, you're seeing a

shrinking supplier base. Um. You know, I think with with this particular deal of the Marvel deal, one of the arguments that they could Perford is, look, yes we're both in the chip space, but we're in very different parts of One is as as you mentioned it, sort of network processing, and one is in hard drives, which is a not quite yet redundant technology, but it is certainly

something that's going out. I think where you're going to see problems is when these companies, you know, like Marvel, which you're going to be built up through doing acquisitions, when someone else goes out to buy them, it's then also almost impossible that you don't have overlaps at Hammond, thank you so much for joining us. Fascinating issue this year of the chip maker takeover Marvel buying its rival

Caveum for about six billion dollars. At Hammond is a Bloomberg Deals reporter and it's joining us here in our eleven three oh studios. Thanks for listening to the Bloomberg P and L podcast. You can subscribe and listen to interviews at Apple Podcasts, SoundCloud, or whatever podcast platform you prefer. I'm pim Fox. I'm on Twitter at pim Fox. I'm on Twitter at Lisa Abramo. It's one before the podcast. You can always catch us worldwide ID on Bloomberg Radio m