The next year and a half will be all about patient capital and selectivity, BlackRock noted in its private markets outlook 2023 report.
“Patience is our friend right now that the market is more likely coming our way from a price standpoint,” Lynn Baranski, managing director and global head of investments at BlackRock Private Equity Partners, told Private Equity International.
The firm is being highly critical on the investments it is looking at, Baranski added. “You cannot perfectly time markets, but we want to be cautious about the asset prices we’re paying today. And then more importantly… that we’re using the right amount of conservatism on exit multiples.”
Baranski also pointed out that capital structures are in focus, adding that covenants are back. “We’ve gotten calls over the last month or two about some big take-privates. But are debt markets deep enough right now with the banks having pulled back a little bit or being hung with some of the debt related to some other big deals earlier this year? Can we get the debt in place to finance some of these big buyouts that are in scope? So, we’re just cautious right now.”
BlackRock’s Private Equity Partners unit manages about $23 billion of assets across primaries, secondaries and direct investments. The firm is managing dedicated vehicles for growth equity, healthcare, secondaries, impact and private opportunities, PEI data shows.
To take advantage of lower average purchase-price multiples to drive top-line growth and economies of scale, the firm is seeing more add-ons by its portfolio companies, it noted in the report.
“For new investments, we anticipate more take-private and corporate carveout deals as companies refocus on core businesses in fragmented industries. The new environment has led PE buyers to adjust how they calculate risk and structure transactions. More general partners are building buffers into the capital stack, as negotiating leverage increasingly shifts away from companies toward investors,” according to the report.
Baranski noted that these buffers include initially over-equitising deals, with the ability to recapitalise later with additional debt once markets are more certain, and more structured terms, especially in the growth equity space. Investors in growth equity companies, which are often not yet EBITDA or free cashflow positive, are well positioned when they come into the capital-raising process, having more attractive terms and valuations as well as structural protections, she said.
“The public markets have been most damaging to those smaller unprofitable businesses. We’re going to see lots of opportunity in the growth space… But we need to be patient there again. People are trying to make cash last as long as possible in that sector. That’s another reason [why] we will likely see consolidation in that space as well.”
Return to ‘normal’
Distributions to LPs will continue to be muted as market uncertainty seeps into 2023, Baranski said.
“We could be looking in a year or two years from now, selling assets at lower multiples. That means managers need to focus on ways to drive value appreciation in their portfolios through tuck-in acquisitions or using technology to reduce costs to manage margins.”
“I’m hoping that we will see a return to a three-to-four-year deployment of a fund versus a two-to-three-year deployment. Given the market dynamic and uncertainty around asset prices – how far they’ll come down and the inability to get lots of leverage – that might happen naturally.”
What signs or indicators will Baranski look for to signal that the market environment is improving? “Everyone is waiting on the US Federal Reserve to see where there might be a pivot [on aggressive rate hikes]… [We’re also watching] inflation, and how it starts becoming more moderated. We’re going to be watching margins and the performance of the underlying businesses. We manage a very large portfolio of companies – close to 180 – and we can look at those quarterly to really see how margins are trending.
“I’m cautiously optimistic for next year. History has shown us that some of the best vintage years in private equity are those years that follow a turbulent and dislocated market.”
The secondaries market will continue to be attractive to investors as they look to do more portfolio management of their private equity portfolios, she added. “Both the LP side of the secondaries market and GP-leds will be in focus in 2023.”
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