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Dealtalk: Direct Line's buyout suitors face uphill struggle
July 16, 2012 / 3:13 PM / 5 years ago

Dealtalk: Direct Line's buyout suitors face uphill struggle

LONDON (Reuters) - Buyout firms hoping to snap up Royal Bank of Scotland’s (RBS.L) Direct Line Group will have to put forward a compelling offer to distract the British bank from a well-advanced plan to list its motor insurance business.

A flag flies over the former headquarters and registered office of the Royal Bank of Scotland (RBS) in Edinburgh, Scotland March 29, 2012. REUTERS/David Moir

Floating Direct Line could value Britain’s No. 1 motor insurer at over 3 billion pounds ($4.7 billion), analysts reckon, which would likely be more than bargain-hungry private equity groups are willing to pay.

An initial public offering would also make it easier for RBS to keep a stake in Direct Line in anticipation of better times.

“If they do a phased initial public offering, RBS would have more of the upside,” Oriel Securities analyst Mike Trippitt said. “If they retain say 30 percent and they get a bit of market recovery, they can go again at a higher level.”

Private equity firms Bain Capital and Blackstone have been considering an offer for Direct Line, which also includes the Churchill and Privilege brands, people familiar with the situation said.

Apax Partners, BC Partners and KKR are also mulling a bid, though they have not agreed formally to join forces, another person familiar with the situation said.

Both plans are at an early stage and neither team has made an approach to RBS or Direct Line, three of the people said.

Private equity groups have long coveted Direct Line because of its market-leading position and ability to generate strong cash flows from regular insurance premiums.

However, their ability to pay is limited by a dearth of affordable debt financing, while the government will be keen to avoid the potential embarrassment of seeing state-owned assets sold too cheaply to private equity.

The buyout interest comes as RBS, ordered by European Union regulators to sell Direct Line as payback for a state bailout it received in 2008, is putting the finishing touches to a planned autumn IPO.

“The plan remains to IPO the business in the second half of 2012, subject to market conditions,” a Direct Line spokesman said.

RBS last week added a further eight investment banks to its advisors for an IPO, a process being run by Goldman Sachs, Morgan Stanley and UBS. [ID:nB901269]

The lender, 82 percent state-owned since its bailout, has been preparing Direct Line for sale for about two years, turning around Direct Line’s financial performance after it crashed to a 295 million pound loss in 2010.


RBS has also put in place a new senior management team at the unit, equipped it with its own investor relations department, and developed a separate Direct Line brand.

The IPO market in Europe has been in the doldrums since the onset of the euro zone sovereign debt crisis in 2010, with companies including German chemicals conglomerate Evonik and Georgia’s state railway monopoly forced to pull offerings this year.

Direct Line could get a warmer welcome, as its strong balance sheet and steady income stream supports an ability to pay generous dividends.

    RBS aims to sell a minority stake in Direct Line at first to avoid swamping the market. That could create a stock overhang weighing on the share price as RBS prepares to offload at least 51 percent of Direct Line by end-2013 to satisfy EU regulators.

    But an IPO could still prove more lucrative than a sale to buyout firms who will negotiate hard on price after Britain’s Office of Fair Trading threatened in May to refer the motor insurance market to the competition regulator.

    “Private equity will be in there with a price hammer, pushing down the valuation because of the OFT stuff,” Shore Capital analyst Eamonn Flanagan said.

    “Private equity people like a reasonable element of certainty and the OFT provisional referral to the Competition Commission does not provide any certainty whatsoever.”

    The OFT has said it will decide in October whether to call for a full anti-trust probe of the motor insurance market, citing concern that dysfunctional competition was pushing up premiums for consumers.

    Buyout groups BC Partners and CVC both came close to buying Direct Line more than three years ago, when RBS hoped to sell it for about 6 billion pounds, although the sale was pulled shortly after the lender’s bailout.

    Analysts said the best outcome for RBS would be an offer from an insurer able to afford a higher price thanks to post-merger cost savings, although competition worries and strict new capital requirements make any such bid unlikely.

    RBS declined to comment.

    ($1 = 0.6432 pound)

    Editing by Dan Lalor

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