Hollywood’s biggest superstars will descend on the sunny French city of Cannes for the film festival later this year. This week, however, the red carpet at the iconic Palais des Festivals was rolled out for private equity executives who had gathered for the International Private Equity Market conference.
Representatives from LGT Capital Partners, Intermediate Capital Group, Campbell Lutyens, AlpInvest and Headway Capital Partners, to name a few, spent almost two hours discussing everything from GP-led deals to the use of subscription credit lines, stapled transactions and target returns. Here are four takeaways from the event.
Stapled deals still raise eyebrows among buyers
Some of last year’s biggest deals included stapled elements, such as Mubadala’s $2.5 billion transaction with Ardian and BC Partners’ $1 billion deal with Lexington. As tempting as these deals may be, buyers need to ensure they have the skills to evaluate both assets and manager.
“Those are two completely different risk profiles and two completely different underwritings,” said Ricardo Lombardi, managing director at ICG. Mixing the two together is unnatural as they require different lenses, he added. Firms that have primary programmes that can switch between asset selection and manager selection will have an edge.
But even if you have this ability, there’s still the issue of adverse selection, according to Oliver Gardey, head of Europe at Pomona Capital. “Usually, top funds don’t ask for a staple,” he said.
The banks will be back
Large-scale disposals by banks between 2009-13 were great for buyers, but this has largely dried up as a source of dealflow. Banks have come back aggressively over the last three years, making primary commitments to funds, and in the event of an economic downturn they may emerge as distressed sellers.
“It wouldn’t be a huge surprise as and when the market turns that [banks] could come back to secondaries buyers,” said André Aubert, who leads private equity secondaries at LGT Capital Partners. With the confirmation this week of Jay Powell as Fed chair – Powell is a supporter of easing restrictions that limit banks’ investments into private equity – secondaries buyers might want to set aside some of the estimated $77 billion in dry powder for when banks return as sellers.
Information asymmetry is a double-edged sword
More intermediation in the market has made access to information harder. In the “old days” intermediaries provided buyers with information via large data rooms. Now they have become more sophisticated and are targeting specific buyers, according to Gardey.
It’s not 30, 40 people who are invited [into a deal], it’s usually four to five,” Gardey said. Processes are run much more efficiently and data transparency is an issue, but buyers can take advantage of information asymmetry.
“It’s what drives returns because you have to build your own information advantage,” he added.
It’s still unclear whether returns on GP-led deals are worth the risk
Plain-vanilla portfolios of buyout stakes deliver between 1.2x and 1.3x unlevered returns on average, according to Bernhard Engelien, managing director at Greenhill Cogent. As the GP-led market has become more competitive, buyers may not be making more than 1.5x on an unlevered basis. “The question becomes, are you adequately compensated for the risk you’re taking?” Engelien asked.
When asked by the moderator what their target returns were, the response from the two buyers on the panel was mixed. One said his firm targets a 2x return on its latest fund, while the other stressed target returns differed between types of deals and whether leverage is used.
So, unlike the blue sky above Cannes this week, the picture on GP-led deals remains cloudy.