The boom in the M&A markets between 2004 and 2007 has to a substantial extent been fuelled by the unprecedented rise and rise of Private Equity (PE) deals. An industry that was a relatively marginal element of our economy only ten years ago has thus become increasingly significant. While individuals are generally still not able to invest in PE funds directly, there are numerous ways in which PE matters to ordinary investors and people generally. An increasing percentage of our pension funds are invested in PE. By some estimates almost three million jobs are in private equity owned companies. And the industry has kept a plethora investment bankers, lawyers and accountants busy, thereby contributing substantially to the recent success of the country's financial services industry.
In the May edition of MoneyMarket we concluded that while the finance for the mega-deals has for the time being dried up, there are plenty of reasons to conclude that PE as an important asset class is here to stay, not least given that there is still plenty of money invested in the funds. So what are the trends likely to be in the near future?
First, PE is already in the process of shifting its attentions from mature western to emerging markets, in particular Eastern Europe and Asia. The trend is also likely to continue to move away from highly leveraged (and often syndicated) mega-deals. The mid-market is where the action is at the moment.
Within this market, and in keeping with the spirit of the times, many expect that the alternative energy sector will be the next investee industry of choice. Trade sales will continue to be the most likely exit route from investments, with IPOs a distant second.
As far as third party funding is concerned, the banks, which are currently holding back as a result of the credit crunch, will at some stage, have to come back to the table and start lending again. After all, that is their business. When they do return, they are likely to find that the lucrative PE territory no longer belongs to them exclusively. Debt will increasingly be provided by alternative lenders, such as sovereign wealth and hedge funds. The resulting competition will provide a fillip to the PE market.
Finally, all across the world, there will be continued pressure to have the PE industry more heavily regulated. PE has come under scrutiny in many countries due to its opaque structures and perceived lack of transparency. High returns for investors and executives alike, coupled with job losses at investee companies in certain instances, have resulted in PE funds being viewed by some as less than ideal corporate citizens. In Germany, they were famously labelled as "locusts".
The PE industry in the UK has so far been left to self regulation. The Walker Report, commissioned by the British Venture Capital Association (BVCA), has recommended publication of annual accounts of investee companies disclosing the identity of the PE investors who own them, as well as their board structure and also requires the provision of data to the BVCA in order to allow it to assess the economic impact of the industry. In addition the report has asked for more transparency in the reporting of funds' performances.
Market participants would be well advised to heed the recommendations, lest the heavier hand of legislators across the EU comes to bear. Such regulation could deprive PE of one of its main competitive advantages, namely the opportunity to focus on achieving growth in the medium term without the need for continued disclosure required of publicly listed companies.
This article appeared in the June edition of MoneyMarket.
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