Silver Lake CEO Predicts Private Equity “Golden Age”
The CEO of Silver Lake, a large private equity firm focused primarily in technology and growth industries, has a rosy prediction for the near future of private equity. Silver Lake CEO and co-founder, Glenn Hutchins, forecasts “The financial markets may be on the cusp of a new ‘golden age’ for private equity.”
The financial crisis which has brought ruin to many private equity firms and their portfolio companies may now be ending as credit markets open up and the stock markets recover. Hutchins points out some important and promising indicators but he does not provide a clear explanation for why it will be a “golden age” rather than simply a return to average private equity activity. After all, even a very modest recovery in the industry will be seen as a significant improvement but it would still fall short of the boom a few years back.
“Now that the sort of panic of ’08 is over and capital markets seem to be returning to some degree of normality … companies will be able to access debt and equity markets like they have in the past. And that is no surprise,” Hutchins said.
But he added that investors needed to be mindful that valuations in 2007 should not be defined as normal. They were an “overshoot in another way,” he said.
“Now risk premiums are at attractive levels. Investors are being paid to take risk again. That means when you look back on this, when you get back to economic recovery, this will have been a good time to invest,” Hutchins said.
“If you need financial engineering to enter a deal and multiple expansion to exit a deal, then your business is fundamentally challenged,” Hutchins said. Source
It seems everyone is trying to anticipate changes to the private equity industry and how it will effect individual firms and investors. Whether it is the FDIC allowing private equity firms to invest in banks, statesoutlawing the use of placement agents, a boost in the IPO market or a recovering public market; there are major changes taking place following the major financial crisis. Some of these changes may be permanent while others will likely be temporary and adapt as the economy recovers.
Australian private equity blog Carried Interest recently looked at what the long-lasting fundamental shifts will be, those that last at least 3-5 years. I was writing a comment on his predictions but it evolved into a small essay so I’ve included it here. He believes that the “New Private Equity Normal” will include the following factors–to which I added my two cents:
Fewer firms: Carried Interest estimates a 30-50% reduction in the number of private equity firms in the next few years. I find this a bit high, if nothing else simply based on the volume of e-mails I receive from individuals and firms looking to open a private equity firm. Whenever a financial industry has a tough year observers speculate that a huge portion of the industry will dissolve. For example many observers were writing the epitaph for the hedge fund industry at the end of last year but August marked the sixth straight month of positive returns and hedge funds are posed to have the best year in a decade. I hesitate to suggest that private equity is about to have such a massive and rapid recovery.
But there is enough monetary incentive remaining as the 2/20 model has not been drastically reduced and investors are returning slowly. In 2009 fundraising was off to a dismal start in Q1 but increased 28% in Q2. It’s to be expected that fundraising would be incredibly tough but as confidence returns to the market I don’t see much warranting a cut in the industry by half.
As for existing portfolio companies, these firms should do better as the economy recovers and consumption increases (unless it’s a double-dip recession as Nouriel Roubini suggests). If the capital many private equity firms have had to inject does not overburden them with debt and if portfolio companies are able to generate profits again, then most firms may be able to escape bankruptcy. Of course, it’s tough to estimate anything in this economy but most economists have agreed that the worst is behind us in the financial markets at least. A recovery in the IPO market also suggests that private equity activity will recover in the next year as more buyouts take their companies public and find new investments. I think it might be healthy for the industry if it consolidates a bit but a reduction by 30-50% is quite severe and, I think, unlikely.
Much less debt: I do agree with Carried Interest on the reduction of debt, but maybe not to the 50/50 debt to equity ratio as a standard. It’s hard to imagine that big buyout firms will limit their debt use without a strong push from investors but maybe they are realizing that the potential risk and the concern to investors warrants a shift.
Tougher fund terms: This is an almost certain reality and I believe the terms that limited partners are able to push through will remain the standard unless private equity firms are able to have an amazing year that demands reevaluating their agreements. Again the 2/20 model will largely stay intact it seems although some firms have reduced their fees to entice wary investors especially at new private equity firms. However limited partners are gaining ground in other areas such as distribution waterfall, greater influence on the investments through advisory boards, and other aspects of the LPA. I tend to see term agreements as a tug of war and as institutional investors succeeded in gaining ground it takes twice the effort for private equity firms to recover that loss especially without a really great year.
Longer hold periods: Considering the losses that private equity firm’s portfolio companies racked up in the recession, it’s reasonable that PE backers will want to hold onto these investments longer in order to realize their full value. There was a time this decade where buyouts departed from investing long-term, but that may be over.
Continued development of GP operating skills: Private equity has been evolving its methods and strategies consistently over the last two decades and the pressure to keep increasing returns will ensure that General Partners continue to develop and implement new techniques and ways to increase profits. As Carried Interest writes, “Leverage and multiple expansion are no longer available to drive easy returns. GPs are going to have to build value through earnings growth . . . and that means (really) helping improve portfolio company performance. McKinsey predicted this trend years ago, but the credit boom and strong equity markets allowed many PE managers to cheat, to rely purely on financial engineering. The future? Look at firms like KKR. They have a team of 40 consultants called Capstone whose sole focus is on building value within the KKR portfolio.“
As always, this is not financial advice nor is it a guaranteed prediction of the private equity industry. Please see a qualified legal or financial consultant before following any prescriptions in this website.
The value of public relations is an often underestimated or entirely ignored aspect of private equity fund marketing. While there are certainly some exceptions, many private equity firms fail to realize the benefits that can be achieved through public relations. The press sometimes vilifies the private equity industry as vultures preying on struggling companies or merciless owners that strip down and sell off businesses. This view is most likely just the result of a few controversial deals but the private equity industry has not made much headway in repairing its image. Public relations is a key element in removing the stigma of private equity.
Private Equity Public Relations
The media is always hungry for new stories about alternative investing, but some private equity firms keep a no-media policy. This approach only adds to the public’s suspicion of the secretive industry. Private equity managers can gain greater visibility for their firm and contribute their thoughts on any deals or trends, rather than allowing the media to draw conclusions based on limited facts and insights.
I would strongly encourage you to talk with your legal counsel to see if they would approve of your discussions with the media–so long as you stick to industry trends, general market trends and long-term movements you are seeing within the industry. If possible, carry out the following steps for implementing a solid public relations program in your private equity firm.
Four Tips for Taking Advantage of Public Relations for Your Private Equity Firm
1. Legal Advice – Speak to your legal counsel to check on exactly what you can say or not say to the press.
2. Reach a Publication – Develop a list of 10-15 targeted publications which you would like to appear in. Identify the editor of financial columns within that publication or news source and introduce yourself to them as a resource.
3. Go Out – Speak at public events, conferences, networking events and other places in the industry where you will be heard not only by others in the industry but probably a few members of the press as well.
4. Share your Knowledge – Consider writing a book on your insights and experience. Private equity is often misunderstood and one way to increase transparency is to publish a book explaining the industry and how private equity firms work. Yes, writing a book sounds extreme to many who are already working 50 hours a week but that is also why it would be so effective to consider doing so. A book on private equity does not have to be exhaustively long, for example, Orit Gadiesh of Bain & Co.wrote an excellent concise book on the lessons she learned from working in private equity.
There has been a bit of speculation lately that buyouts are set to make a full-fledged comeback, namely the Economist’s “The barbarians are coming, again.” With the economy showing some signs of life in the last month and private equity firms finding new deals in distressed securities and failing banks, it’s easy to assume that we are seeing the return of private equity. However, there are some important caveats to this idea. The following is my attempt to provide opposing viewpoints on the potential return of private equity.
First, let’s consider the positive signs in private equity:
A few deals have been announced. Compared to 2007, the deals are hardly anything to write home about, but in an ailing economy and few lenders willing to finance major deals, this is big progress. Apax Partners has negotiated the purchase of Bankrate for $571 million.
Loosening the FDIC guidelines. FDIC chair, Sheila Bair, has been working with the private equity industry (primarily, via the Private Equity Council) to set up some reasonable guidelines for investing in failing banks. There are deals in the works that have been stalled because of the FDIC’s strict proposal last month so there is adequate pressure on the agency to produce a more workable proposal by August 10. I read today that the Tier 1 leverage ratio will likely be relaxed from 15% to 10%, a more feasible rule for private equity buyers.
Reviving the Initial Public Offering. The market for IPOs may be reviving amidst a slowly improving economy. Kohlberg Kravis Roberts is reportedly trying to take Dollar General public and KKR is still considering going public itself. Limited partners want some sort of return to make up for the heavy losses they’ve endured so there is more push to take some portfolio companies public.
$400 Billion in Uninvested Capital. It has been frequently noted that private equity firms are sitting on some $400 billion in uninvested capital. This is a huge pool that has the potential to restimulate deal activity, if it’s put to use.
Now, it’s time to consider the caveats to this optimism. I read a critique of the Economist’s article by Professor Robert Salomon which had some comments that should not be forgotten.
Deal-activity is still incredibly low. We have seen some encouraging deals in the last couple of months but Professor Salomon responds to the uptick in deals: “With respect to the first point about the recent uptick in deal-making activity, even including those recent deals, we are still on track for a greater than 50% decline in activity from 2008 to 2009. Moreover, there is no assurance that Apax’s $571m investment in Bankrate won’t suffer a similar fate as TPG’s recent $1.35B investment in Washington Mutual.”
Loosening Strict FDIC Guidelines. I tend to see this reduction in the Tier 1 leverage ratio as giving an impossible rule then following it by a still unreasonable but far better alternative. If the FDIC does cut the ratio from 15% to 10% it is still twice as high as what a well-capitalized bank is required to follow. I am not an expert in the capitalization of banks but I do not think that a 10% requirement will draw as many PE buyers as the FDIC needs. Banks need capital, private equity firms have capital, punishing the potential buyers by putting them at a disadvantage to strategic buyers is not an appealing proposal for buyout firms. I am not advocating either way, but private equity firms are pretty sour toward the FDIC and the slow process has reportedly stalled some deals.
The IPO Market. Private equity firms are under a lot of pressure from investors to sell off their assets but this could lead to some rushed IPOs. Sure, the public markets are rallying, but are they really stable?
$400 Billion – $400 Billion=? Finally, the $400 billion that private equity firms are holding onto should be coupled with the $400 billion that private equity firms are reportedly carrying. The Times finds, “The biggest private equity groups face more than $21 billion of debt maturities in the next two years, the newspaper said, citing data from S&P LCD. To that must be added a further $50 billion in 2012, $115 billion in 2013 and $192 billion in 2014.” The idea that private equity firms will be moving toward a more stable equity-to-debt ratio is also a tad dubious, in my opinion. This puts an interesting dilemma for private equity firms who have that debt hanging over their heads: Do we try to keep the traditional leverage ratio, or use primarily equity in future deals? Now very few banks will be willing to help leverage the deals but if the PE firms are paying back the debt then there is less cash available to correct the ratio.
In conclusion, it’s hard to believe that private equity is posed for the type of full-fledged comeback that some are predicting. However, the industry is showing some healthy signs of recovery which should not be dismissed.
There are obviously a lot of varying views on the industry, if you’d like to comment on this piece or add your own insight, feel free to send me an e-mail to Theo@PEblogger.com
The opinions expressed above are solely my own, unless otherwise stated, and do not represent any financial advice.
This week I have been covering factors to consider when selecting a private equity firm to partner with. There are many choices and limited information on many buyout firms, so you should be careful in deciding what firm is best suited to their risk appetite and specific needs. This is the final part in a series of four articles on how to choose a private equity fund. To read the first article, see Sector Specialization and for the second, see Historical Performance and the third, see Private Equity Fund Management. The following explains the importance of selecting private equity firms with a good reputation.
I often highlight the importance of having a great reputation in the private equity industry and I think it is important at any level of the business. If you act unethically or even unlawfully you put a near-permanent smear on your professional reputation. This will cause even long-standing clients to reevaluate doing business with you. This article applies that idea to private equity firms.
I would think long and hard before working in any way with a private equity firm that has a poor reputation in the industry. This is not to say that any minor legal issue or controversy should automatically prevent you or your company from considering the private equity firm. But by working with a discredited private equity firm you open yourself up to a lot of liability. Their decisions have a direct or at least indirect impact on your own standing in the industry. For example, if you provide an auditing service to a private equity firm that participates in some form of an illegal or unethical act, then that reflects poorly on you and could potentially open you up to a lawsuit or inquiry. Even if you were unaware of the violation, you could be associated with that firm and scare off future clients.
To avoid this scenario, a certain level of due diligence should be conducted on the private equity firm. This can be done by examining the firm’s record, past funds and transactions as well as speaking with professionals who have done business with the private equity firm. Similarly, look into the lenders who work with the firm and how consistent their relationship has been. If the firm frequently changes lenders this may indicate that the firm has not satisfied its lending partner. Similarly, gain insight from limited partners and service providers who have consistently worked with the group. If you are new to private equity, it would be helpful to reach out to someone who is experienced in the industry such as a professional advisor. A well-rounded perspective will help you decide whether the firm has a solid reputation.
With the impending regulation hanging over the private equity industry, it’s hard to tell whether the industry will expand or contract. By requiring firms to register with SEC, or similar measures intended to increase transparency, it’s possible that investors may be drawn to the asset class because it would have more accountability to limited partners. On the other hand, greater regulation could limit private equity firms from generating the same kind of returns that investors have enjoyed previously. The following video examines these issues and the current state of private equity.
If you are looking to learn more about Private Equity as an investment, career or for prospects for your small business please refer to PrivateEquityBlogger.com. This is a blog ran by the H Media Group and it contains over 500 unique articles, videos, interviews, book reviews and Q & A pieces on private equity. Here are links to their top 50 resources:
If you are looking to learn more about Private Equity as an investment, career or for prospects for your small business please refer to PrivateEquityBlogger.com. This is a blog ran by the H Media Group and it contains over 500 unique articles, videos, interviews, book reviews and Q & A pieces on private equity. Here are links to their top 50 resources:
The Private Equity Council has issued a statement supporting the Obama administration’s proposed overhaul of the American financial system. The proposed regulation requires advisers to private equity, venture capital and hedge funds whose assets are greater than a undetermined amount to register with the Security and Exchange Commission (SEC). Although the Private Equity Council does not believe that the private equity industry creates systemic risk but it does agree to further scrutiny on private equity firms.
The Private Equity Council does not necessarily represent the views of all private equity firms but with impressive industry members it signals some support for a controversial regulatory plan. Council members include such leading private equity firms as, Apollo Global Management LLC; Bain Capital Partners; The Blackstone Group; The Carlyle Group; Kohlberg Kravis Roberts & Co.; and TPG Capital. The following is the statement from the Private Equity Council:
“The goals of financial regulatory reform should be to restore confidence in financial markets generally and the credit markets in particular, and to protect our financial system from the kind of meltdown that has devastated the global economy. We believe that the Obama Administration has crafted a plan that can accomplish these objectives.
“The plan calls for private equity firms to register as investment advisers with the Securities and Exchange Commission. We support this proposal, even though it will result in new regulatory oversight for many private equity firms.
“While we and most experts agree that private equity firms do not create systemic risk, we also support the concept of data collection from market participants and we look forward to reviewing more detailed proposals as the legislative process unfolds.”
Private equity returns in the Gulf region are expected to soar, at least according to the chief executive of Abraaj Capital. At a recent private equity conference in Dubai, Arif Naqvi predicted, “The private equity industry in this region is going to enter a phase where I believe that the returns we have seen over the last few years will be dwarfed by what we are going to see.”
As large American private equity firms like the Carlyle Group and KKR are eying the region for potential investment opportunities. Carlyle Group recently announced its first $500 million Middle East and North Africa fund. Arif Naqvi explained why the Gulf may be an appealing prospect for foreign private equity investors:
“The public markets are paralyzed and closed, not just regionally but globally. Well, we are the alternative option. Private equity has a good name in this region. People have seen how value has been created
Although he sees many private equity investors turning to the region, Naqvi urged investors to use judgment and due diligence when investing. Investors should, Naqvi suggested, take a long term approach and to become more knowledgable in industries they invest in.
Nordic Capital’s Auto Parts Company Files Bankruptcy
The secondaries market has been seen as a point of optimism for the struggling private equity firms during the credit crunch. However, Deal Journal pointed out Friday that Nordic Capital’s recent purchase in the secondaries market has filed for bankruptcy, suggesting that it could be a sign of what’s to come in for private equity secondaries buyouts.
Since the purchase of Plastal eight years ago from Gilde Investment Management, Nordic Capital has sunk more than $150 million into the auto parts manufacturer.
Nordic Capital invested 1.5 billion Swedish Kronor ($161.3 million) in the bumper and dashboard maker through its fifth fund. This reflects the cost of the 2005 purchase from Dutch peer Gilde Investment Management, which had owned what became Plastal since 2001; its contribution to Plastal’s €350 million euro ($439.5 million) purchase of German car parts maker Dynamit Nobel Kunststoff; and an equity infusion of 100 million kronor in January.
Despite Nordic Capital’s investment into the company, Plastal filed for bankruptcy recently. The auto parts company explained the bankruptcy filing thus, TThe Plastal group has been severely impacted by the unprecedented downturn in the automotive industry. A sharp decline in volumes during the fourth quarter 2008 has been followed by a further 40% drop in the first two months of 2009 [against the same period the year before].”
Deal Journal explains that companies with heavy amount of debt are more likely to be hit by economic downturns, like the drop in demand that crippled Plastal. And while secondaries buyouts tend to add a level of debt to companies, private equity firms thought management teams would be especially able to handle the debt and increase cash flows.
Secondary buyouts were seen private-equity firms and their investors as more stable and better able to handle debt loads than so-called primary buyouts, because the management teams were used to running the business to maximize cash flow to service the debt. Such skills are increasingly valuable as cash has become king. Still, almost any business with leverage is more vulnerable than most these days and this particularly affects secondary, or tertiary, buyouts.
While Nordic Capital’s troubles aren’t a conclusive prediction of what is to come for the private equity secondaries market, it is a sign that even secondaries buyouts are vulnerable to market volatility.
The depressed economic environment which we are now experiencing has forced more hedge funds and private equity firms to close down than within any other single 12 month period. These two industries face a marred public image, overall negative investment returns and an investor base which in many cases now prefers to hold cash equivalents rather than place money at this time in the market cycle. The industry faces many challenges, while also serving as fertile ground for those funds which can prevent losses and recruit talent.
It would seem that the next two years will be either feast or famine for most hedge funds, and as usual most will be left hungry for more capital.
Related to Hedge Funds and Private Equity in 2009 and 2010
The depressed economic environment which we are now experiencing has forced more hedge funds and private equity firms to close down than within any other single 12 month period. These two industries face a marred public image, overall negative investment returns and an investor base which in many cases now prefers to hold cash equivalents rather than place money at this time in the market cycle. The industry faces many challenges, while also serving as fertile ground for those funds which can prevent losses and recruit talent.
It would seem that the next two years will be either feast or famine for most hedge funds, and as usual most will be left hungry for more capital.
Related to Hedge Funds and Private Equity in 2009 and 2010
Although it has obviously been a tough year for private equity and the economy in general, it has been an exciting year for Private Equity Blogger. This blog has vastly exceeded many of my goals in expanding readership to more than 1,000 pageviews each day, writing hundreds of articles and making lots of great contacts. Richard Wilson has a great tradition at his blog and I’d like to start the new year by making some resolutions:
Private Equity Blogger 2009 New Years Resolutions
Writing more than 100 educational articles especially focused on finding a position with a private equity firm, raising capital and attracting private investors, operational due diligence strategies and selecting various private equity service providers.
Begin using alternative media for posts like original videos, audio interviews and hopefully a private equity “webinar.”
Include more articles by knowledgeable private equity industry veterans. This is in line with my hope to further provide information to those new to private equity and considering working in the industry.
Expanding this blog’s up-to-date coverage on the big and small events impacting the industry.
At least doubling visits to this blog from 1,000 to 2,000 daily pageviews and increasing subscribers to the Private Equity Blogger feed.
I’d like to say thank you for all the readers who have supported this blog as well as the private equity professionals and firms who have contributed their knowledge and experience. And of course, I wish everyone a happy new year.
Private equity deals have reached a new indicator of the troubled private equity industry. Along with the shaky market, private equity firms have had to persuade wary investors to join funds and maintain struggling portfolio companies. According to Thomson Reuters, global private equity activity fell to a five year low of $188.7 billion in 2008. This is a 72% decline from 2007, revealing just how troubled the private equity market may be.
Deals Decline
Buyout deals have especially declined, accounting for only 7% of all Mergers and Acquisitions volume. This a distinct change from the private equity giants that executed mega-deals only a few years ago (peaking at 20.6% of M&A in 2006) and it is the lowest percentage since 2001. Additionally, many deals that were put into motion before the financial crisis are now being put aside or canceled and some private investors are fighting to back out of the deal.
All this has translated into sagging public investment in private equity firms, like the Blackstone Group which is trading about 1/5 of the price of its IPO of $31. It seems that other private equity firms considering a initial public offering have taken notice of the poor market response, as KKR and Apollo Management have stalled their move to the public.
With significantly less leverage available (which firms have used to finance large deals in the past) it seems that it will be a while before private equity firms are executing multi-billion dollar deals like earlier in the decade. Although America maintained its superior deal volume to Europe but only by a slight margin. The U.S. accounted for 42.4% of buyout deals while Europe trailed by only 0.4%. The finance industry led the United States in private equity activity possibly hoping to profit from struggling companies. Energy and power were the most popular investment area with 17% of private equity investments.
Keeping Clients
Perhaps the biggest challenge to private equity firms is keeping their clients and making sure that they are confident in investing with the firm. This is especially important for the biggest clients like pension funds and endowments which may be more skittish about investing in the alternative areas like private equity or hedge funds. Especially after some endowments appear to have been burned this year (see endowments and private equity). As University of Chicago finance professor Steven Kaplan comments “The question is, how many limited partners will continue providing money? Historically, in markets like this they cut back, and it’s precisely the time they shouldn’t.” Private equity firms are struggling to maintain their investors, as Reuters shows:
Four out of five U.S. investors and nearly two-thirds of investors in the UK would refuse to re-invest if they felt funds had underperformed, diverged from their core focus, or lost some key members of staff, according to a recent report from secondary private equity asset specialist Coller Capital.
Sale of exposure to private equity funds has risen in the so-called secondary market as the years of high returns end. Universities such as Harvard are among those trying to sell private equity assets, sources have told Reuters.
David de Weese, partner at secondary market specialist Paul Capital, estimates that $130 billion to $140 billion of private equity will available for sale by institutional investors globally during the next two years, and that supply will continue to significantly outstrip demand in 2009.
But improvement may lie down the road, with funds invested during the coming year expected to do better.
As for the future for private equity, Douglas Warner, a senior member of Weil, Gotshal & Manges LLP’s private equity practice predicts, “I think we will see reduced private equity activity in 2009, other than transactions such as PIPEs that don’t require so much leverage. I don’t think the debt markets will come back immediately.”
The Wall Street Journal has a great article on the private equity’s changes in light of the credit crunch and financial crisis. Also, private equity firms going private, like KKR’s delayed move to be a publicly traded company, are evaluated in such a volatile market. Here is an exert, to read the full article please follow this link.
The heads of these mega-private-equity firms may also sense that there is a bigger prize at stake. With a number of investment banks fatally wounded, there is scope for other sources of capital to emerge. Alongside a number of hedge funds, the larger private-equity funds were until recently in the process of positioning themselves to provide this capital, taking the place of traditional investment banks. In a recent example, Royal Bank of Scotland sold $8 billion in bank debt to private-equity firms, including Blackstone and TPG. Entities which used to be the borrowers had become the lenders.
One of the rationales for the firms making this shift is that, for private-equity funds, redemption terms tend to be long. This gives them the edge in providing long-term capital. However, inherent in the partnership structure — as opposed to the public structure that KKR and others seek — is the understanding that payouts are variable and unpredictable because they are based primarily on volatile investment performance, the value of which is realized on an irregular basis. By converting to publicly owned companies, these entities place themselves at the mercy of shareholders who value regular fees over the variable and volatile ones that come from the traditional work of private-equity funds.
This presents the new providers of capital with a different form of the problem that the rest of the banking system faced recently: unpredictable assets and predictable liabilities. One way for the newly public funds to manage this mismatch is to focus on earning steady, pre-agreed management fees rather than focusing on volatile investment performance. This shifts the core work of these funds toward fee-earning work, such as corporate finance advisory services, and away from their entrepreneurial roots of buying private companies and turning them around. This may be what the private-equity behemoths have in mind, but investors need to understand that these companies will not be the private-equity funds of old — and must adjust their expectations accordingly.
And what lies ahead for the rest of the private-equity industry? Once the behemoths move into other businesses, the asset class itself may be free from the mantra of “bigger equals better.” The remaining funds will be able to focus on their original task of extracting buried value from unlisted companies. Those firms that stood their ground in the mid-deal market and ignored the ever-growing thirst for bigger funds could once again become the standard bearers for the private-equity industry. Sticking to their knitting — that is, focusing on what investors want from them in the first place and maintaining the alignment of interests through a commitment to the underlying investment performance — may well prove to be a shrewder move than branching out as the big boys are doing.
Tags: Private equity change, private equity changes, changes in private equity, private equity wall street journal, private equity news, private equity story, private equity article, private equity industry
Lately, private equity firms have often been described as “sitting on the sidelines,” referring to the minimal private equity activity in the current financial crisis, while having a lot of capital waiting to be invested. This private equity “pause” is considered by Dealbook, which asks why private equity firms have taken this passive position in Why the Reluctant Vultures? Specifically, the piece focuses on those private equity buyout funds that have thrived in depressed markets like today’s:
Other types of vultures, often those associated with private equity firms like Apollo or Cerberus, look to acquire controlling positions in companies through the bankruptcy process. Many of them are sitting on the sidelines, waiting for borrowers to get closer to default before they swoop in.
There’s the chance prices could fall more, especially if investors think historical recovery rates don’t reflect what they’ll be able to claw back if the companies go bust.
That’s possible — the debt issued in the most recent boom was, on average, of lower credit quality than that issued in earlier cycles, and it was festooned with borrower-friendly innovations that could impede lenders’ recovery.
Also, while there is now only $40 billion or so of United States leveraged buyout-related loans stuck on bank balance sheets — a sixth of last year’s peak — another overhang threatens. S.& P. estimates that hedge funds and structured investment vehicles hold $50 billion in loans they might be forced to sell.
Dealbook then concludes that this financial crisis may be too risky, even for those known for succeeding in an uneasy market.
Clues of Private Equity’s Future from Jack Perkowski
Like most people, I have been anxiously following the recent financial developments, but especially in regards to private equity. The financial crisis has made it increasingly difficult to make predictions of the future of private equity; with so much chaos and fluctuation in the market there have been conflicting guesses as to private equity’s future. Today, I found a great insight into what the top industry leaders are thinking through Jack Perkowski’s blog Managing the Dragon.
Mr. Perkowski is a highly successful businessman in China and author of Managing the Dragon and he recently spoke at the SuperReturns conference along with big private equity names like David Rubenstein and Steve Schwarzman. Jack Perkowski reveals some points made at the event that found a general consensus among the private equity leaders speaking. I believe that these points provide some clues to the future of private equity from the best in the business:
Long Recovery: No one thought that the recovery from the current financial crisis would be quick. In fact, approximately 90 percent of the attendees thought that it would take three years or more for financial markets to recover to their 2007 highs. Of these, 38 percent thought it would take more than five years. Most felt that the United States and Europe, in particular, were in for long and nasty recessions.
Traditional PE Business Models Won’t Work: The days of using financial engineering (high leverage, “covenant light” debt and arbitraging higher exit multiples) to generate returns are gone. With the consolidation of the banking industry globally, there are fewer lenders today than there were yesterday, and the ones that are still standing have opportunities to buy existing debt in good companies at substantial discounts to their face values. While cost cutting can improve profitability, companies cannot cost-cut their way to prosperity. Therefore, the premium is on growth as the way to generate acceptable private equity returns in the future.
Minority Interests and Buffet: Traditionally, PE firms have taken control positions in companies and have generally shunned minority investments. In this turbulent financial world with debt financing scarce, the head of a major global PE firm expressed the view that minority interests and “buy and hold” strategies might become more prevalent, specifically citing Warren Buffet’s recent strategic investments in General Electric and Goldman Sachs as examples of what the future might hold. Following on this point, the moderator remarked that when Warren Buffet was asked to explain his strategy for determining when and under what circumstances to sell a company, he responded by saying: “I don’t know. I’ve never sold one.”
Emerging Markets versus Developed Markets: As readers of MTD know, the term “emerging markets” was coined by my friend, Antoine Van Agtmaelhttp://managingthedragon.com/index.php/2008/09/28/2008-world-business-forum/ in the early 1980s. It now refers to about 200 countries—essentially all of the countries in the world outside the United States, Canada, Western Europe, Japan and Australia. A head of one of the major global firms thought that the term “emerging markets” had outlived its usefulness because it was now so broad. For example, lumping the countries of China and Chad into one category is not terribly meaningful. In the words of this individual, the term “developed markets” should be changed to “submerging markets.” More than anything, that remark characterized the views of the conference.
Places to Avoid Investing: Europe and commercial real estate, anywhere.
Highest Future Returns: Approximately 60 percent of the participants thought that the best returns over the next five years would come from the Asia and India region. While the current credit crisis would lead to recessions in many countries, most felt that it would merely slow the growth rates in China and India. In this context, the current crisis might actually be a blessing in disguise for China by providing an opportunity to cool down the overheating of the economy experienced in 2007.
Tags: Private Equity Future, Private Equity Future Outlook, Private Equity Industry, Private Equity and the Financial Crisis, The Future of Private Equity, jack perkowski, Private Equity Outlook
The Intercontinental Hotel in Festival City, Dubai will host some of the biggest names in private equity for the SuperReturn Middle East event. The prominent private equity speakers include the president and CEO of Investcorp, David Rubenstein of the Carlyle Group and Steve Schwarzman, the co-founder and CEO of Blackstone. Mr. Long said of the conference:
“We are delighted to be a principal partner of such a prestigious event. SuperReturn is the definitive private equity forum. Its success and standing in Europe is now being replicated here in the Middle East at a time of increasing excitement and opportunity for the local private equity industry.”
The conference is sponsored by Investcorp, Gulf Capital, HGB Holdings, and Middle East private equity firm Ithmar Capital and Thomas H. Lee Partners located in the U.S. The conference takes place Sunday, Oct. 12 until Wednesday, Oct. 15. For more information click here.
If you’d like to know more about the trends and development in the Middle East, here is a video of the World Economic Forum in the Middle East 2007, again David Rubenstein is a distinguished speaker here.
Hopefully, this conference will be put online, it should be a great opportunity to learn more of the future of Middle East private equity.
Permanent Link: Middle East Private Equity
Tags: Middle East Private Equity, Middle East Private Equity Video, David Rubenstein, Steve Schwarzman, Middle East Private Equity Conference, Middle East Private Equity Event
A private equity firm offers a private placement memorandum to potential investors. The document explains an investment opportunity to potential limited partners, and the firm hopes they will be interested enough to invest capital in the investment.
Private equity firms usually include in the private placement memorandum a wide range of information that a limited partner would like to know when considering the investment. This includes summary terms and conditions proposed by the firm that a limited partner may negotiate if the LP decides to invest. In public capital investment offerings, the Securities and Exchange Commission regulates the document, but a private placement memorandum is not regulated and therefore the material and specifics provided to the limited partners may vary by firm. This article will cover what is most often included in a private placement memorandum, but private equity firms may choose to exclude any of these sections or add one that is not present.
The private placement memorandum is a document for private equity firms hoping to attract investors, and limited partners rely on the PPM to make their decision based on the information presented in it. Here are some general sections of the private placement memorandum:
Executive Summary: Some information usually included here would be the size of the fund, expected close date, and the management team’s experience in past funds. Additionally this section includes a brief description of the General Partner, the investment strategies used, and the opportunities and challenges in the current market.
Firm and Fund Investment Strategies: This is more or less self-explanatory but what you want to present is the firm’s past performance and history; how it has succeeded and what strategies were used. How the firm’s advantages and resources will succeed in the specified market. This section is a detailed overview of the fund’s investment strategy discussing the geographical focus of the fund, stage and relevant factors in its market. This is also an opportunity for the General Partner to present a thorough explanation investment strategy, process, deal sourcing and exit strategy.
Investment Professionals and Committee: This section presents the investment professionals involved in the new fund and explains their role. An especially important detail here is the history and experience of the investment professionals. Principal investors’ records are often included here with current board positions held in portfolio companies of the firm’s past funds. This is important information for the potential Limited Partners to know as it gives them an idea of the firm’s degree of involvement in portfolio companies and the individual partner’s ability to manage a new fund. Second in this section, firms often provide information on the Advisory Board or Investment Committee. This section varies by different firms but often larger Limited Partners will hold seats on the Advisory Board which is of particular importance in for prospective LP’s. This shows the details of the Advisory Board’s members, scheduled meetings, as well as valuation methodology and important factors when considering new investments.
Investment Performance Record: This section varies by firm because of different sizes and especially the difference between how long a firm has been established. Generally, firms use a table format to present the fund’s investment track record. This table usually includes past fund sizes and IRR performances of the funds (typically stated in terms of gross returns rather than individual LP’s net returns over fees).
General Partners and Limited Partners Terms and Agreements: This is where the firm gives its initial proposal of terms and agreements between the General Partner and the Limited Partners. Most importantly, the management fee, General Partner’s commitment the fund, distribution of the capital call schedules and the fund’s cooperative investment policy. Of interest to the investors is the percentage of profits that the General Partner takes, known as “carry”.
Legal and Tax Concerns: Tax treatment varies by whether the investor is U.S. based or non-U.S. based, and this section will briefly address different tax treatments and how it effects the Limited Partners.
Fund-related Investment Risks: This sectiontypically covers three areas of investment risk: business, management and fund risk. Business concerns would address concerns over the investment’s industry and risks inherent to the industry and possible uncertainty in the business environment. The management concerns are usually relationships to other entities, possibly a parent company. The fund-related risks may include cross-fund investments, principal’s co-investment activities or investments in public equities.
Accounting and Reporting: Included in this section is an explanation of the allocation of returns and losses and accounting for stock options. This section gives a schedule for audited and non-audited financial statements that are delivered by the General Partner. This gives Limited Partners an idea of the valuation of their investment and a way for keeping track of their capital commitment.
Again, this is a general overview of the typical sections of a private placement memorandum which may be subject to change by private equity firm, as it is not regulated by the SEC. In the future I will provide an article on the important factors that Limited Partners consider in a private placement memorandum.
Private equity real estate is an emerging area of private equity that has developed successfully this decade especially. These private equity real estate funds use various strategies to create returns from large real estate property investments, mostly through a value-added approach that improves the worth of acquired real estate.
As of the year end of 2006, historical 5-year and 10-year compounded annualized returns of private equity real estate in the United States have been 13.3% and 12.7%. The NCREIF Property Index reveals current returns averaging 8% since 1978. Private equity real estate will likely see changes following the mortgage meltdown, but it is an expanding sector of the private equity industry.
Private equity real estate fund of funds are relatively new to private equity, really becoming well-known in private equity early in the 21st century. The majority of private equity fund of funds managers are located in the United States at 50%, followed by Europe with 43% and only 7% in Asia and other regions. Real estate fund of funds often attract investors because they provide an element of diversification to a portfolio and investors with smaller capital to commit are able to invest in a fund of funds if they are not able to invest in a large hedge fund of private equity fund. If you’d like to learn more about private equity real estate fund of funds, here is the 2008 Private Equity Real Estate Fund of Funds available for purchase.
Here is a list of the largest private equity real estate firms:
The Blackstone Group
Morgan Stanley Real Estate
Tishman Speyer
Goldman Sachs Real Estate Principal Investment Area
Colony Capital
Lehman Brothers Real Estate
The Carlyle Group
ProLogis
Beacon Capital Partners
LaSalle Investment Management
MGPA
AEW
Rockpoint Group
Apollo Real Estate Advisors
CB Richard Ellis Investors
RREEF Alternative Investments
Grove International Partners
Shorenstein Properties
The JBG Companies
Citigroup Property Investors (CPI) Capital Partners
Tags: Private equity real estate fund of funds, private equity real estate, real estate private equity, investment in private equity real estate, real estate investment
The World Economic Forum has released a report based on data gathered from private equity activity in 21,000 firms from 1970 to 2007. This private equity report is nearly 200 pages and provides an extensive overview of how private equity has changed over recent decades. While it’s difficult to summarize such a large report, it does provide the key findings. Today, I am mostly focusing on the important findings in buyout activity (LBOs especially), private equity trends and exit strategies:
WEF Private Equity Report 2008
Private equity activity has dramatically increased over recent years. Almost 40% of private equity activity occurred from January 1, 2004, of the 37 years included in the study. The total value of firms acquired through leveraged buyouts is estimated in the study to be about $3.6 trillion, and $2.7 trillion of those transactions occurred between 2001 and 2007.
While a lot of media and public scrutiny centers around the public-to-private transactions, this activity only accounts for 6.7% of total transactions. Instead, the majority of transactions involve acquiring private companies and corporate divisions. (I wonder if private equity will use this to combat negative attention toward private equity over public-to-private buyouts?)
Leveraged buyout activity takes place predominantly in Western Europe and the United States, with only 9% of the total value of global LBOs happening outside these areas. However, there is an increasing amount of private equity activity taking place beyond Western Europe and the U.S. as other regions warm up to the private equity industry.
Research into private equity exit strategies revealed that 39% of exits are through trade sales to another corporation, making it the most common exit strategy. Following with 24% was exits through secondary buyouts and only 13% of private equity investments took the exit route of an Initial Public Offering.
Private equity investors seem to favor long term investments with 58% of private equity investments’ exits occurring after 5 years from the initial transaction. The last few years have seen a decline from “quick flips” (exits after only 2 years or less from the initial transaction) from the already low 12% of private equity deals. I would not be surprised if the bias toward long term investments increases even more in the next couple years as investors are drawn toward more stable investments amid the financial instability.
Another key finding was the big increase in companies backed by- and operating under private equity ownership. The number of firms entering LBO status has outpaced the number leaving LBO status so a steady margin has formed; 14,000 companies were held in LBO ownership as of 2007, compared to just 5,000 in 2000 and 2,000 in the mid-1990s. Also, the length of time that these companies are held in LBO status has increased.
These are only some of the more noteworthy findings in the private equity report, if you’re interested in viewing the whole 189 page report click here: the full private equity report from WEF
Private equity firms have certainly felt the adverse effects of the global credit crunch, as the number of buyout deals has fallen considerably to a four-year low.
A buyout deal often relies on a large amount of leverage to purchase a majority stake in a company’s equity. The current financial market has sharply limited the credit necessary to carry out these buyout deals, and private equity firms have suffered as a result. For the year-to-date, global buyout activity fell by 74% to $180 billion, a remarkable decline that signifies a decline in buyouts not only in the struggling U.S. market but globally as well.
No Credit, No Deal The major buyout deals made earlier this decade are no longer feasible with banks increasingly hesitant to loan money for potentially risky leveraged buyouts. Private equity firms seem to have resigned to smaller deals for the most part until credit returns to the market. $2 billion is rumored to be the current limit for financing a deal, according to an anonymous buyout executive. This is a far cry from the type of large leveraged buyouts that took place just last year, like the $17.9 billion acquisition of Clear Channel Communications led by Bain Capital and THL Partners. More Hesitation over Buyouts It appears that private equity firms are exercising greater caution when considering buyouts as they fear that the worst of the financial crisis has yet to come. This is not to say that there have been no private equity deals this year, but there has been a marked decline in the number and size of deals, and the private equity firms have relied on other sources of capital outside of bank debt. Recently, private equity has transformed from a strong reliance on debt for financing deals to more available resources like the recent private equity takeover of the Weather Channel with funding coming from GSO, Blackstone’s hedge fund.
The drop in private equity activity is most prevalent in the United States, where buyout activity has fallen 83.5% to only %61.8 billion year-to-date. Many private equity firms are holding large amounts of capital “waiting on the sidelines” to invest once market conditions stabilize. Some private equity firms see distressed market conditions as a positive, seeking to capitalize on the situation by investing the capital that they accumulated and turn a profit off a seemingly negative economic decline.
Change of Strategy The large private equity firms have reacted to the crisis by following the age-old investment strategy of diversifying. K.K.R is reaching into alternative investment areas such as real estate and mezzanine financing. Blackstone has similarly expanded into other areas by strengthening its hedge fund arm, strong real estate business and its M&A advisory unit.
The credit crisis is having obvious adverse effects on the private equity world, and many industry professionals fear that the worst has not been felt yet. However, many private equity firms have been able to survive, and even profit, through creative investment strategies and diverting their focus from exclusively private equity to alternative areas.
Video of Conference Discussing Private Equity Structure Changes
Today’s video deals with private equity’s structure changes as discussed by several qualified private equity fund and fund of funds managers. This video is about 45 minutes, I wish that I could edit these private equity videos so that they are shorter, I’ll look into this soon. The video is from a source that I often look to for quality videos for private equity professionals, Private Equity Exchange. The conference also deals with exit strategies for private equity groups. A major benefit of this video is the European perspective on private equity and it gives a good structure discussion.
If you found this video especially beneficial please send me an email at Theo@peblogger.com and I will provide similar videos.
New York City is a major hub for private equity activity so I’ve made the following list of the top private equity firms located in New York. In the near future I will be creating more articles based on private equity in New York.
Top 15 Private Equity Firms in New York
Here is a list I’ve made from a list of the Top Private Equity Firms to only show the Top 15 New York Private Equity Firms by assets raised over last 5 yrs (billions).
Goldman Sachs Principal Investment Area = 49.05 billion
Tags: New York Private Equity, New York Private Equity Firms List, Private Equity In New York, New York City Private Equity, New York City Private Equity Firms
