IT is a small town in Germany and, like a place in a John le Carré thriller, is steeped in the atmosphere of the cold war. But since U-2 spy planes stopped flying from Giebelstadt’s American airbase, the south-eastern town has become more associated with boats than planes.

Giebelstadt is home to the headquarters and main factory of Bavaria Yachtbau, which has established itself as one of Europe’s biggest yacht builders.

Last year the town toasted the company’s founder, Winfried Hermann, after he sold the company for €1.3 billion (£1 billion) to private-equity investors. For the 2,000 inhabitants, it meant welcome recognition for something other than its military past.

Hermann, who founded the company in 1978, built a company that sold “affordable” boats in the €50,000 to €100,000 price range, earning him the title “the Henry Ford of yacht production”.

The sale to Bain Capital was meant to provide the firepower for expansion into Asia and America. It may, however, prove to be the company’s undoing.

Bavaria Yachtbau agreed to one of the most highly leveraged deals of the mergers and acquisitions boom. It was among a swathe of big private-equity deals that were completed before the credit crunch but that bankers say could run aground if the economy continues to worsen.

Many businesses were bought by private-equity firms using large amounts of debt and only thin slices of equity. In the case of Bavaria, €900m of the €1.3 billion proceeds was paid in debt lent to Bain Capital by the investment banks Goldman Sachs and Dresdner Kleinwort on “very borrower-friendly” terms, according to one banker.

Last year, Bavaria sold 3,500 boats during a period of great economic prosperity. Past clients include Formula One supremo Mike Gascoyne. The technical chief of Force India – billionaire Vijay Mallya’s racing team – arrived for last year’s Monaco grand prix in a Bavaria boat, having sailed from Barcelona with his wife.

A year later, the economic backdrop is much less benign, and has led to a drop in demand for luxuries like yachts. “The [Bavaria] deal is poorly structured and has little protection if the business suffers in a recession,” said one investor.

The sale tag was about five times the company’s annual revenues of €271m and more than 16-times historical profits of €79m – “an awful lot to pay for a budget yacht maker,” as one banker said at the time.

Even Goldman Sachs appears to have concerns about its exposure, to the extent that the American bank recently offloaded €100m of its €450m from the deal at 65 cents in the euro, which another banker described as a “thumping discount”.

The sale represents one of the biggest losses an investment bank has taken on a leveraged deal since the onset of the credit crunch, suggesting investors view the company to be worth much less than the total value of its borrowings.

The loans that Goldman and Dresdner extended were so-called “covenant-lite” – loans with less strict financial terms – a common feature of many of the big buyouts completed during the boom.

When the economy deteriorates, the lending banks are more vulnerable to covenant-lite deals. Sources say Goldman tried to sell more of the debt but investors wouldn’t bite.

In the absence of covenants, if Bavaria’s performance worsens then the usual default mechanism that sends a warning to its banks is non-existent. This means that the full scale of any problems is unlikely to be identified immediately.

Bavaria is not the only big private-equity deal that has come under scrutiny. Investors in Gala Coral recently ploughed another £125m into the gaming company after interest on its £2.5 billion debt wiped out profits. KKR and Doughty Hanson have had to inject a further €140m into German vehicle-parts firm ATU when it ran into difficulty after lower-than-expected sales of winter tyres. Candover has had to put more money into Ontex, a Belgian maker of nappies, in a restructuring aimed at avoiding insolvency.

Other deals have yet to reach the rescue stage but many are viewed as strong candidates, especially in the property sector. Housebuilder Crest Nicholson and retirement-home operator McCarthy & Stone have both seen their debt trade at distressed levels, as have estate agents Foxtons and Country-wide. All were bought by private equity last year.

Like many of the boats it makes, Bavaria Yachtbau will have to navigate choppy waters. The time will come this year when the company, like many other big buyouts, will have to meet interest payments on its huge debt. That will be the test of whether it will sail on or founder.

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