In a Flood of Cash, Somebody's Going Under

But boy, will Blackstone get paid if things go well. For starters, it will get a $360 million fee for doing this deal. It will also knock down about $100 million of annual fees from its investors, assuming that its investors buy out Goldman, Bear and BofA. (Blackstone will reduce some of its fees to offset $180 million of its deal fee, but I'm not sure how that works.) Then there's the Street's fee festival for placing and selling $29.6 billion or so of debt, for redeeming Equity Office's current debt, for advice (including $30 million to Merrill Lynch for helping Equity Office), and who knows what else.

My guesstimated fee total for everyone involved: north of $1 billion. That doesn't include Blackstone's 20 percent of its investors' profits. If it makes the 20 percent pre-fee return projected in a due-diligence document that I came across, that piece of the pie would run another quarter billion dollars a year.

Okay. Many people think that commercial real estate is in a froth, if not a full-fledged bubble. So how does Blackstone think it can pay a top-of-the-market price to a shrewd seller like Zell and still hope to make a profit for its investors? By loading up Equity Office with debt.

The company carries debt of $15.4 billion, and its stock is worth $19.8 billion (at the deal's price of $48.50 per share). The post-buyout company would have about $30 billion of debt and stock worth $6.7 billion. If the post-LBO Equity Office brings in enough cash to cover the interest payments on all this new debt, investors can do very nicely. If not, look out below.

Although this takeover may well prove successful, its financing is a symbol of how lending standards are falling and will continue to fall as more money searches for more deals. Someone -- maybe a lot of someones -- will go under before this is over. Given how many public and private pension funds and endowments are in this game one way or another, some of that lost money may indirectly be yours.

Debt and bridge equity are like the Jet Skis of high finance. If you know what you're doing and you don't run into bad luck, you'll have a great ride. But get it wrong or get unlucky, and you'll take on water so quickly that the next great market will be for life boats. And bankruptcy lawyers.

Sloan is Newsweek's Wall Street editor. His e-mail address issloan@panix.com.