Wednesday, August 3, 2011

Carlyle Flipping Missoula's Mountain Water: Trade Secret

The Billings Gazette reported testimony given to Montana's Public Service Commission on The Carlyle Group's proposed acquisition of Park Water, owner of Missoula's Mountain Water.

The Carlyle Group has said it intends to be a long-term owner of Mountain Water (by purchasing its parent, Park Water Co. of California), information from the firm appears to reveal that Carlyle has plans to sell it in the “not too distant future.”  Wilson did not reveal the number of years that Carlyle planned to hold the investment, because Carlyle considered it a trade secret.

Carlyle’s exit strategy also lists an annual return expected by the firm — an amount also blacked out in Wilson’s testimony, but characterized by Wilson as “a very large annual return.”

Achieving that return could be harmful for Mountain Water customers, Wilson said, because it might mean raising water rates excessively or making large equity payouts.
Carlyle's expected annual return is 30%.  Cofounder David Rubenstein suggested Carlyle would accept a little less for publicly guaranteed infrastructure projects, say 15%.

Did Carlyle cite their common practice of floating debt for dividends, i.e. large equity payouts?  They did it with Booz Allen Hamilton and Dunkin' Donuts.  What about carried interest, PEU's stake of any investment profits in a venture?

Carried interest may create an incentive for the general partner (or similar managing fiduciary) of a Carlyle-sponsored investment vehicle to make riskier or more speculative investments on behalf of such Carlyle-sponsored investment vehicle than would be the case in the absence of this arrangement.
That's quite a confession from Carlyle, known for burying bad consequences.

Carlyle's regulatory submission revealed a $102 million price tag for Park Water.  It states Carlyle expects Park Water to be the platform company in the water space for Carlyle Infrastructure Partners.  The offer letter to Henry H. Wheeler, Jr. contains:

We would also like to explore retaining you as a board member or consultant post acquisition.  This offer is contingent upon your maintaining the contents of this letter and all related documents and the fact we have delivered it to you, in the strictest confidence.

It's followed by a threat that Carlyle could declare the offer null and void.  It gets better:

Carlyle refused to provide to regulators or the Consumer Counsel its detailed analysis and expected financial results from the purchase.
Carlyle described their analysis before making an offer for a potential affiliate:

In considering potential investment opportunities in the corporate private equity setting, a number of analytical methods are utilized in an effort to achieve a thorough and in-depth assessment of the potential investment. Typically, these analyses focus on the (i) reputation of shareholders and management; (ii) company size and sensitivity of cash flow generation; (iii) operational, marketing, legal, tax, labor, environmental and accounting factors; (iv) business sector and competitive risks; (v) industry competition, both domestically and abroad; (vi) portfolio fit; (vii) exit alternatives; and (viii) other key factors highlighted by the investment team.
In light of Carlyle's extensive due diligence, I was surprised by this response regarding pensions:

a. Is the existing pension plan fully funded? If not, why not?

RESPONSE: Carlyle does not have current information responsive to this data request.

b. Who controls the pension plan, how is it invested, and will it be continued at its present

RESPONSE: Carlyle does not have current information responsive to this data request.
Carlyle purchased RAC without taking on the pension obligation.  Their slippery response raises questions which regulators should investigate.  Will the public interest be controlled by public servants or by PEU's?

Update 8-11-11:  Missoula won't be able to buy Mountain Water directly from parent Park.  Apparently, it has to be sold to Carlyle first.  The PEU (with its high return requirements) can then mark up Mountain Water for resale to a public entity.  That's the state of PPP's..