Global giant KKR & Co’s private equity team looks at heaps of...

Global giant KKR & Co’s private equity team looks at heaps of Australian businesses, but has the capital, bandwidth and appetite to pick eyes out of all the ideas and invest only in the best.

Sometimes it gets it right – for example, carbon projects group GreenCollar was a home run 18 months ago.

Other times it has been dead wrong – mine-site trucking business Bis Industries and oncology provider GenesisCare, for example, were handed over to lenders on its watch.

Perpetual’s corporate trust and wealth management was a potential humdinger; too big and defensive to fail, too weak a target to say no.

KKR was going to pick the eyes out of a beaten-up Australian blue chip, one seriously weakened by expensive acquisitions, on the nose with investors and desperately seeking some way out of its own hot mess.

KKR would take the big, stable, defensive and 139-year-old corporate trust arm, separate it from the mothership, leverage it up and either sell or float it as a pure-play financial services provider in a few years.

It would buy the wealth unit as the wealth industry still reeled from the banking royal commission, and before other private equity firms started waking up to the desperate need for financial advice and the lack of big players to provide it (as seen by the three bids for Insignia).

Standalone entry

KKR could vend the wealth unit into another PE-owned business or sell it as a standalone entry into Australia’s wealth sector once the cycle turned.

KKR was one of the few buyers – this was a complex acquisition of two businesses serving different types of customers and offering quite different services.

There was no trade buyer for the whole, leaving it to a sharp private equity firm to do the tough separation work and package the two parts up for new owners.

Most importantly, it’s an investment that shouldn’t have bombed, a characteristic that shouldn’t be dismissed when it comes to big PE’s big Australian acquisitions over the years (Healthscope, Accolade Wines, Bis Industries, Camp Australia, GenesisCare and even Nine Entertainment, our publisher, all bombed for big PE, while Crown Resorts is the latest to look shaky).

And in Perpetual, KKR had a big, bruised counterparty on its knees and desperate to sell. Yes, Perpetual was accident-prone, but it was under so much pressure from shareholders, including Washington H Soul Pattinson, that it had to do something. The chairman and CEO were already in the departures lounge.

So, after a formal process, KKR offered $2.175 billion for the lot.

Perpetual’s board, having done a U-turn on its own “house of three different businesses” strategy, was only too happy to sign it. There was no better buyer for the lot.

However, on Monday that deal was in tatters.

Perpetual’s board blames an adverse finding by independent expert Grant Samuel,which ruled the deal was not in the best interests of shareholders. By blaming the independent expert, it could end the talks without paying the $21.75 million break fee.

The reality is Perpetual and KKR’s deal died on December 9, when the Australian Taxation Office refused to grant it rollover relief. It meant a $500 million-odd tax bill for Perpetual should it go through with the deal, reducing estimated cash proceeds to Perpetual shareholders by about 40 per cent.

In the board’s mind, that tax bill meant the deal no longer made sense.

“Both parties walk away red-faced after nearly 18 months of talks.”

KKR lobbed a pair of recut deals (both non-binding and indicative) to try to get around the issue in recent weeks, including one that would have reportedly led to Perpetual shareholders being paid close to $8 a share and some of them being eligible for franking credits to take the proceeds beyond $11.

Still, that wasn’t good enough for Perpetual’s board. It wanted a price increase – and something to get the proceeds to more than $8.38 a share.

So, the deal is off and both parties walk away red-faced after nearly 18 months of talks and having achieved little other than an unexpected contribution to Australian tax rulings and generating a disappointingly large pile of fees for lawyers and other advisers.

Perpetual has admitted it has a debt problem; KKR has a dry powder problem. There is spilt milk everywhere.

Perpetual, having done another strategy U-turn, will seek to sell just its wealth unit (interested, KKR?) to shore up the group’s balance sheet. Its new pure funds management strategy will make a U-turn back to running a collection of businesses, namely funds management and corporate trust.

CEO Bernard Reilly, hired to oversee what was supposed to be the pure play funds manager, will run both. He needs to ban any notion of more deals in the Foreseeable future – Perpetual shareholders are dizzy enough. The new strategy needs years to settle. Investors cannot take any more changes in direction.

The scale of Perpetual’s dealmaking deficiency is almost unfathomable; having dealt its way into a bad corner by paying too much for arch-rival Pendal and a bunch of other asset managers at the wrong time in the cycle, it changed its strategy and planned to deal its way out with KKR’s help.

As for KKR, its Australian private equiteers held their ground and now have to find somewhere else to put their firm’s clients and their $US110 billion dry powder. It hurts – private equity returns are as much about the deals missed as the ones signed. It got lucky when it missed out on Ramsay Health Care two years ago (considering what happened to private hospital industry returns). This deal, however, was a much safer bet.

But it has now bolted (ironically, as did its tilt at Perpetual in full in 2010). And the sooner everyone moves on, the better.