Long-term investments and funds lasting 10 years (or even more) have made Private Equity (PE) less sensitive to economic fluctuations. This asset class came out of the 2008-09 financial crisis with less failure than expected. But will the same be said after this pandemic? Crisis and change has usually been advantageous to PE. There will be opportunities to buy up underperforming subsidiaries and profit from restructurings. On the other hand, exits will be delayed, with extended holding periods and additional preparation time as sellers wait for market recovery. Upon this, it is believed that their bounce back will be faster than anticipated.
In PE, fund managers invest capital (medium to long-term) in unlisted companies in return for an equity stake. It consists of equity finance which supports management teams in established businesses during buyouts, and growth capital for growth and early stage companies – also known as Venture Capital (VC). There are Limited Partners (LP) who typically own 99 percent of a fund’s shares, with limited liability, and General Partners (GP) who typically own 1 percent of shares, with full liability. LPs assign capital to funds which are managed by GPs, who are then responsible for the execution and operation of investments. Looking into trends, the recent one of LPs opting for few fund managers with large commitments will most likely continue. Any due diligence well in progress prior to lockdown will also carry on to completion. As far as investments, it appears that deals are being delayed or cancelled by GPs. According to Henley Business School (University of Reading), 2019 saw a 20% decline from the previous year in management buyouts invested by funds and a 17% decline in VC deals. High valuations and growing competition to carry out deals are partly the cause. This downward trend will probably continue onto this year. GPs will shift their focus away from front-office deals and instead funnel resources into protecting existing portfolio companies by improving their profitability.
Although not to this magnitude, it is worth noting that similar challenges have been faced before – namely in the previous financial crash. Other than central banks and governments, very few entities possessed the kind of funds required to restructure debt, restart company growth and rehire employees. With an estimated US$1.5 trillion of dry powder (collectively) for existing portfolio companies, PE firms are certainly within the means to alleviate these problems. Executives believe that the high returns they have been known for will be dependent on their actions within the next 6 to 18 months. Alongside growth equity, there are several deal-making options available to firms in the upcoming months. For instance, successful companies which weren’t up for sale prior to the crisis might now be considering additional funds from alternative sources. Furthermore, some public companies are more amenable to going private whilst others are looking to let go of non-core assets. In terms of work, a big realisation during lockdown was that it could be completed entirely from home using digital platforms. The flexibility of remote working means firms will turn to more sophisticated online technology when raising funds and buying/selling stakes in the market. This will result in fewer travel costs and cheap, accessible platforms that make PE widely available to individual investors. Portfolio companies will also benefit from digitisation. Firms can establish ways for these companies to automate processes and improve customer experience. GPs including that in their plans would help boost operational efficiency. They should also consider the increasing cost of regulatory compliance. When it comes to executing environmental, social and governance (ESG) policies, it was already important to this sector with issues such as climate change being a high priority to LPs for several years now. In a recent interview, Intertrust Group’s Chief Commercial Officer, Ian Lynch, stated, “Coming out of this crisis, there will be a green theme contributing to the economic recovery. I think we’ll see the standardisation of ESG criteria, and also reporting, which currently is fragmented across multiple templates. This crisis is only going to accelerate that trend”.
From a global outlook, PE investors will delve deeper into the opportunities available in developing markets and recent trends in Africa could offer this. Reforming economic systems resulting in rising income and attractive markets have opened the continent up as a destination for foreign investors. The potential for more growth is there, both as consumer demand increases and as investment in infrastructure grows. Post-COVID-19, PE investors with a strong position in the market will seek to profit from the most impacted sectors such as energy, retail, hospitality, leisure and transport. The current challenges in the continent’s oil and gas industry, as well as other non-core infrastructure sectors, will also provide opportunities for buyers. A growing demand for affordable healthcare was already prevalent prior to the pandemic and has since become essential. Long-term investors that have a good understanding of the different markets in individual nations and are willing to work with local governments, will prosper post-crisis. This sector is also embracing new technology, specifically in healthcare delivery, that provides consumers with better access to medical care and advice. Funding companies which seek to provide this will be advantageous to firms. Africa has seen a growth in investment in the energy sector, especially renewables, with several governments looking to tackle issues surrounding access to power during post-pandemic recovery. Like in more economically developed markets, the continent’s investors are also focussing on ESG policies. The crisis will see GPs prioritising factors such as education, sustainability, workplace health, energy efficiency and carbon footprint, among many others.