The virtue of private capital is that it can withstand short-term volatility in valuations of assets held for the long term – and now is the time to prove that.
One large and powerful group of investors, with plenty of money to put to work, should be quite relaxed at the precipitous falls stock markets have suffered due to the spread of coronavirus Covid-19 and may already be eagerly hunting bargains amid the carnage.
At the start of this year, data from Prequin, Dealogic and other sources suggested that across funds dedicated to buy-outs of established companies, venture capital to support growth companies, specialist real estate funds and distressed funds, private equity sponsors had more than $2 trillion of dry powder – money that had been raised in large rounds of fund raising and not yet invested.
Much of that money comes from long-term investors such as sovereign wealth funds, pension plans, wealthy family offices and some public funds allocating to alternatives.
It has been further boosted by some of those limited partners in private equity funds, led by Canadian pension plans and including some of the Middle Eastern and Asian sovereign wealth funds, seeking to co-invest alongside private equity sponsors and even setting up their own direct investing channels.
Go to work
When the bear market panic we are now living through falls into depressed acceptance of lower valuations, this vast pool of private capital should quickly go to work in the M&A market.
In fact, it already is.
At the end of February, a consortium of private investors, led by Advent International, Cinven and German foundation RAG, agreed to pay €17.2 billion for the German conglomerate thyssenkrupp’s Elevator business. The deal should complete by the end of the third quarter this year.
By the time it was signed, European stock markets were already selling off sharply on the realization of just how serious the economic impact of the coronavirus pandemic was going to be.
On February 19, the Europe Stoxx600 index had hit 434. By the time the private equity consortium signed this giant purchase, it had fallen over 13% to 375.
On March 11, it had reached 333, down 23% in three weeks. The leveraged lending and high-yield markets have been hit hard and it is not yet clear where, when and how the purchase will be refinanced nor quite how much equity the consortium members will each provide.
What is remarkable is that the deal was agreed at all when the crisis was already unfolding. That shows a willingness to look through volatility in public market valuations and a determination to pick up attractive assets that rival corporate and other private-equity bidders also desired.
Obviously, there won’t be any more deals like this until equity markets settle and prices stabilize. But then there will be a big buying opportunity for private equity.
Sellers keen to raise cash might seize the chance to get out even at lower valuations than prevailed at the start of 2020.
The attraction of selling to private equity is that deals are less likely to be held up on competition grounds than sales to corporate buyers.
Martina Merz, chief executive of thyssenkrupp, says of the disposal to the private consortium: “Not only have we obtained a very good selling price, we will also be able to complete the transaction quickly.”
Searching for value
What is private equity looking for right now? The managers of these vast pools of capital will be searching for assets in resilient sectors that are either less likely to be affected by coronavirus – technology, business services, software – or where its impact can at least be quantified.
One source tells Euromoney they have just been in a pitch with a technology company where coronavirus didn’t even rate a mention: remarkable for any business meeting in mid March of 2020.
There will be a premium for stability over growth. It will be some time yet before the bargain hunters are searching for opportunities in manufacturing industries with complex, international supply chains.
Thyssenkrupp Elevator sums this tension up nicely. It is a global business that combines manufacturing – still subject to uncertainty about possible plant closures – and long-term servicing contracts that its customers must stick to, even if servicing visits are delayed.
What about the appetite of financing markets for private-equity acquisitions?
Credit investors will be even more focused on conservative business plans and resilient financials for the underlying companies. Equity sponsors may stretch a little for growth, but they will struggle to borrow against the promise of it.
Creditors will likely take a binary view: acquisitions are financeable, at a price yet to be negotiated, or they are simply not financeable at all.
So, private investors may have to put more equity into acquisitions, perhaps accept lower, less leveraged returns and even pay a premium to re-rated lower valuation levels for the most resilient assets.
But there will be great deals to be struck.
Private equity’s time has come.
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