June 19, 2024

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Private equity executives have warned that their industry faces the prospect of years of lower returns as they seek to sell assets following a frenzy of investments during the coronavirus pandemic.

After booming in recent years and raising record hauls of cash, buyout groups face a challenge in exiting from trillions of dollars worth of unsold companies. Many of those deals were agreed during the 2021 to 2022 window of low interest rates and buoyant markets.

“During that period of time rates were low and valuations were high,” Pete Stavros, KKR’s co-head of global private equity, told the SuperReturn industry conference in Berlin, echoing many other executives at the event.

“These are going to be tough vintages . . . they’re probably going to underperform.”

Funds face a challenge to sell off more than $3tn worth of companies they own in order to return capital to their institutional backers, which include the likes of pension, sovereign wealth and endowment funds

Apollo co-president Scott Kleinman likened the issue facing the industry to a “pig” in a “python” and warned that buyout groups would need to endure a few years of lower returns.

Harvey Schwartz, chief executive of Carlyle
Harvey Schwartz, chief executive of Carlyle, saw potential for investment outside the US in markets such as Japan © Bloomberg

A further challenge is that alongside their existing investment portfolios, fund managers have $3.9tn of so-called dry powder or unspent capital to invest in new deals, according to a mid-year industry report from consultancy Bain & Co.

Executives said the industry would have to adapt, with a greater emphasis on finding deals where funds can make operational or strategic improvements to produce profits.

That includes focusing on deals such as carving out divisions from companies or investing in businesses still owned by their founders.

“For the past 10 it was too easy, almost, to generate returns,” Marc Nachmann, global head of asset and wealth management at Goldman Sachs, told the conference.

The industry’s model of paying high prices for companies using cheap debt before selling them just a few years later at a higher price ratio “won’t work in the following 10 years”, he said.

The slow pace of a nascent rebound in deals has also delayed returns. Dealmakers have had difficulty reaching agreement on valuations for their assets, an issue beginning to ease as inflation and the economic outlook stabilise.

While private equity-backed sales are on track to rise 17 per cent this year to $361bn, that would still be the second-worst year for such exits since 2016.

“There has been a bottoming out. What there hasn’t yet been is what we’d call a massive recovery,” said Rebecca Burack, global head of Bain & Co’s private equity practice.

Although investors cautioned on the performance of recent funds, they said there were still opportunities in the market.

Harvey Schwartz, chief executive of Carlyle, said that while rising borrowing costs “might create some challenges for people during the transition, it is a much healthier environment”.

Schwartz said he saw potential for investment outside the US in markets such as Japan — where his group is seeking to buy the local operations of KFC — and in Europe.

“Over the next five or 10 years we’ll be able to see extraordinary opportunities in Europe. But that would be an out of consensus opinion,” he said.

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