Evening Brief – 03.13.24
Frozen
One of the most serious concerns facing the private equity market today is a freeze in exits, which creates a backlog in capital returning to LPs, according to a report by Bain & Company.
The industry has seen a significant paucity of exits in the last year, leaving GPs with an estimated $3.2 trillion in unsold assets across 28,000 companies. Nearly half of those businesses have been stalled for four or more years, according to the firm’s Private Equity Outlook 2024, and buyout-based exits have suffered significantly. Last year’s exit value plunged 44% to $345 billion, while the number of exits decreased by 24%.
The impact on fundraising has been glaring: the number of PE funds closed in 2023 is roughly 55% lower than the previous year, with less than half of the 988 recorded during the post-Covid buyout fundraising boom in 2021.
“These declines in activity have had a chilling effect on fundraising. Slower distributions have left LPs cash flow negative, crimping their ability to plow more capital back into private equity,” Bain & Company said.
“The industry still raised an impressive $1.2 trillion in fresh capital in 2023, and the buyout category attracted $448 billion. But LPs were highly selective. While capital flowed to the largest “reliable hand” buyout funds, fundraising for most was as hard as it’s ever been. Until GPs can begin moving assets out of their portfolios in a timely fashion, raising the next fund won’t get any easier. And the threat to returns is real.”
Exit isn’t the only important issue for PE; M&A activity has dried up across the industry. Macroeconomic instability and rising interest rates have increased financing costs, making it difficult for business leaders to plan acquisitions. Corporate buyers contributed roughly 80% of total exit value in 2023, or approximately $271 billion, a 45% decrease from the previous year, according to Bain & Company.
Sponsor-to-sponsor exits took a smaller hit, with a 47% decline in transactions since 2022, owing to PE buyers’ disincentive caused by rising interest rates, which led them to spend more in order to borrow less.
Although initial public offerings accounted for only 3% of exits, they were on a little better trend in 2023, growing to $11.8 billion from $6.9 billion the previous year.
Bain does not expect the situation to improve soon, stating that exits are unlikely to rebound considerably in the short term. It stated that matters will worsen for GPs as $95 billion in leveraged loans requiring refinancing at a higher rate by the end of 2025 mature, with debts worth more than three times that amount, or nearly $300 billion.
“Getting unstuck demands action in several directions. What’s critical is demonstrating to LP investors that your firm is a responsible steward of capital with a disciplined, unemotional plan to break the gridlock. Cash is clearly king now in private capital – and it needs to be a top priority,” Bain & Company’s global private equity head Rebecca Burack said.
Bain’s report brings some optimism as it credits secondaries in providing innovative liquidity solutions. Secondary transactions raised almost double the amount of capital last year than in 2022, albeit from a small base.
The asset class rose faster than any other over the year, owing to expansion fueled by the liquidity shortage. According to Bain, secondaries may provide a key solution to the industry’s liquidity needs as well as defrost the frozen exit markets, potentially leading to future expansion.