Private Equity Outlook for 2016
Our philosophy and approach to private equity investing, which has been consistent over the last decade, is rooted in developing a highly selective portfolio diversified by investment stage, type, vintage year and geography.
While we place a significant amount of importance on diversification, we believe manager selection should be the primary focus as each sub-strategy will have managers with demonstrated ability to generate value across multiple economic cycles.
With that approach in mind, we find it is useful to look back at the prior year’s market trends to identify potential opportunities and assess potential risks that may be on the horizon. Given the longer term and illiquid nature of private equity, it is difficult to react quickly and capitalize
on temporary market dislocations, so our outlook is focused more on longer-term issues and structural market changes.
Broad Market Dynamics
When trying to assess the private equity market, always be conscious of what is happening in the capital markets, broadly, as these forces help create the opportunities for investment, impact holding periods and drive the liquidation process. High levels of volatility in the public markets can cause uncertainty, which drives buyers and sellers to different sides of the playing field. Tight credit markets can limit the ability of firms to borrow the money needed to fund leveraged buyouts. Lower valuations can restrict the desire of business owners to sell. On the flip side, these forces also can drive businesses into the arms of private equity owners when other capital sources disappear as the need for liquidity increases, or when slowing growth drives the need for restructuring or asset sales.
While U.S. private equity activity marched steadily upward from 2009 through 2014, that trend appears to have reversed with a decline in both the number of deals and total transaction value in 2015.
U.S. Private Equity activity by year
However, it is important to look at the longer-term trends, which show that while 2015 slowed relative to 2014, it remains the third highest level of activity in the last decade.
Average purchase multiples also declined significantly in 2015 from 11.1x to 9.1x, which is more in line with the levels seen in 2010 to 2012. However, be cautious in drawing conclusions as a portion of the multiple compression relates to plunging values in the Energy sector. Through our client portfolios, we have seen continued high purchase (and exit) multiples across a broad range of sectors, particularly in Information Technology and Healthcare.
Median EBITDA multiples for U.S. buyouts
Leverage multiples also have declined, contributing to the decline in overall purchase multiples, due to a number of factors including increased scrutiny on leveraged loans by financial regulators and a massive decline in high yield market activity in the second half of 2015.
GENERAL DISCLOSURE: This paper is intended for sophisticated and/or accredited investors and is for illustrative use only. While the assumptions, data and models used to develop the information contained herein are from sources deemed to be reliable, there can be no certainty or guarantee regarding the likelihood of the outcomes as presented. This document is not and should not be construed as legal, taxation or investment advice. Any investment advice would be delivered pursuant to a written agreement and legal and taxation advice should be obtained from appropriate and qualified professionals. No part of this publication may be reproduced in any manner without our prior written permission. © 2016 Pavilion Advisory Group Inc.