Friday Letter Sizing up surroundings

Fair value accounting isn’t the only thing keeping private equity CFOs and COOs up at night. How to deal with a shifting LP landscape and anticipate the new US administration’s effect on private capital opportunities also weigh significantly.  

Put 200 private equity chief financial officers and chief operating officers in a room and what do you get? Resist the urge to insert your own punch line here – the answer is cautious poise mixed with candid disquiet.

What troughs and valleys lay ahead for industry participants was a key theme visited time and again at the Private Equity International CFO and COO Forum in New York this week.

Defaulting limited partners – a hot issue that only months ago seemed unthinkable but is now a widely accepted possibility – is clearly on many professionals’ agendas. One-third of the conference delegates said they expect to see limited partner defaults in the future, while 9 percent have already experienced the phenomena. Additionally, the survey found 25 percent of respondents had received inquiries from LPs about reductions in their commitments, à la Permira and TPG.

The impact of the global liquidity crisis on private equity fund operations was not the only “grey area” preoccupying CFOs and COOs. Current events also factored in.

US President Barack Obama’s inauguration on Tuesday – or, more accurately, the new administration’s potential impact on private equity opportunities – provided plentiful fodder for debate.

Leaving aside the prospect of potential US regulations that could affect private equity as a whole, one sector that some warn could become less attractive for private investors is infrastructure. Obama has pledged billions of dollars in public funds for infrastructure projects, especially for transportation. This could crowd out some private investors looking for opportunities in the space.

Something similar has already been seen in the banking sector. While some investors have benefitted from the government’s bank bail-outs, and others, like WL Ross, continue to snap up banking assets, some firms are feeling sidelined by the US government’s involvement. TPG decided to slash by 25 percent commitments to its $6 billion financial services fund, telling investors an influx of US government rescue cash has diminished the sector's opportunities.

But despite a watchful approach towards these issues, private equity practitioners aren’t exactly lacking the “audacity of hope”.

At the PEI conference, the largest number of respondents to the LP default survey, equal to 38 percent, did not expect their LPs to default.

Meanwhile some firms think government interest in a given sector represents a greater number of opportunities.

Obama’s commitment to moving the US toward more renewable energy, for example, is creating “excitement with funds and fund sponsors with a deep bench in that still burgeoning asset class”, said Prakash Mehta, co-head of the investment funds and private equity group at Akin Gump Strauss Hauer & Feld.

“Wherever the government is, is where you want to be buying,” Bruce Richards, chief executive of Marathon Asset Management, said at a separate conference in New York Thursday.

No one can accurately predict how hard LP portfolios might be hit this year – and to what extent this will affect their private equity programmes. Nor can people predict exactly how the Obama agenda will influence private equity deal flow.

Still, there is comfort in knowing that fund managers are not just watching the world pass them by, but seriously considering all possible industry outcomes, problems and solutions.