Exits settle at a new normal in private equity
While not hosting quite the blowouts of 2014 and 2015, the private equity (PE) industry wrapped up another strong year for exits in 2016. The remainder of deals that had been on hold during the global financial crisis and its immediate aftermath, and many deals invested since then, finally wound their way to daylight.
At first glance, the numbers show a decline, as noted in Bain & Company’s newly released Global Private Equity Report 2017. The aggregate value of buyout-backed exits globally dropped 23 per cent in value and 19 per cent in count from 2015. But some perspective is helpful—asset sales of $328 billion in disclosed value from 984 deals constitute an extremely strong run—indeed, by value, the industry experienced its fourth-best year ever.
Taking this longer view, the global decline in exits should not come as a surprise, given that exits flow from the deal pipeline of previous years. The financial crisis paralyzed a huge backlog of deals invested from 2005 through 2008. Asset values took a severe hit for a few more years after that and the stars began aligning for exits only around 2013. Since then, especially in 2014 and 2015, PE firms have used more favourable conditions to sell large inventories of unrealized assets acquired before the crisis.
New normal for exits
Now that almost all of the pre-crisis deals have exited, the PE industry has established a new normal level for exits. Historically, PE firms held assets for three to five years on average. Median holding periods for buyout-backed companies crept up steadily from 2008 to reach more than six years in 2014, as investments made during the pre-crisis boom years had to be held much longer than expected while PE firms managed them through the crisis and rehabilitated them through a slow recovery. Median holding periods have settled back to about five years for 2016, barely changed from 2015.
Exits flowed through several channels during 2016. Cash-rich corporations accounted for the majority of buyout-backed exits. Organic growth has been hard to come by for corporations, given the slow or flat economies in many countries. With plenty of cash on non-financial corporate balance sheets and activist investors urging executives to put it to good use, corporate acquirers have been shopping aggressively.
Initial public offerings (IPOs), meanwhile, dropped 40 per cent by count and 48 per cent by value from 2015. When political and economic uncertainty spiked in every region in the first quarter of 2016, most would-be IPOs withered on the vine. Buyout-backed IPO activity began picking up in the second quarter but never gained steady traction.
Companies have increasingly been able to fuel their growth with private capital rather than tapping the public markets. And for sponsors seeking an exit, the certainty and speed of a sale to a strategic buyer or another financial sponsor often are more attractive than a public offering.
Recession worries a boon
Nevertheless, some companies did get out of the gate in 2016. Among the largest buyout-backed IPOs in the US were Athene Holding, the insurer backed by Apollo, and US Foods, backed by KKR and Clayton, Dubilier & Rice after the Federal Trade Commission blocked the company’s sale to corporate acquirer Sysco.
The challenging IPO conditions and recession worries actually were a boon for the sponsor-to-sponsor channel. Absent a corporate acquirer, many sellers chose the more certain, quicker gain of a sale to a PE firm rather than roll the dice in public markets.
For the past few years, dual-track processes have become more prevalent, with many general partners (GPs) continuing to prepare IPOs for portfolio companies while simultaneously exploring an outright sale of the asset. So several dual-track deals ended up on this sponsor-to-sponsor route, including inVentiv Health, Centennial Resource Development and Optiv Security.
Looking ahead, longer holding periods likely will endure for at least the medium term. Assets currently in portfolios were bought at high prices, and with sources of market beta (such as multiple expansion and GDP growth) limited, GPs have to do the hard work of fixing or improving their assets. And that takes time.