The UK’s buyout market has been a relatively happy hunting ground for many GPs in the past few decades. No wonder; England’s ‘green and pleasant land’ – as William Blake famously described it in his poem “Jerusalem” – has many attractive businesses, a good legal and regulatory framework and a business community that understands private equity relatively well; entrepreneurs can see the opportunity to partner with GPs and corporates are generally happy to consider private equity when divesting some of their non-core assets.
But, as market experts who gathered recently in London told us, it hasn’t exactly been pleasant the last few years, as the industry felt the knock-on effects from the GFC. And while the UK’s recovery from recession is well on its way and looks set to continue, private equity fund managers and their investors remain cautious.
“The thing on most people’s mind is whether this recovery is sustainable,” says Mark Nicolson, a partner at Edinburgh-based SL Capital Partners. “Is it going to follow a steady path or is the UK going to be heavily impacted by the stuttering economic situation in Europe? Greece is obviously a worry at the moment, as well as France. The situation in Russia and the Ukraine is impacting European companies as well as certain businesses within the UK. Another concern is whether underlying growth within companies will be coming through this year. We have seen share prices rising but we haven’t really seen commensurate growth in underlying EBITDA.”
Mark Calnan, global head of private equity at Towers Watson, agrees: “With 50 percent of the UK economy’s export going into the Eurozone, it will impact our economy if there continues to be negative sentiment around the Eurozone.” Towers Watson is also slightly concerned that the pause in UK austerity measures will have to end at some point. “That will be a pull on growth whenever this happens,” Calnan says.
While the UK’s economy may not be fully out of the woods yet, there are positive indicators. Calnan expects that the accommodating monetary policy will support growth in months to come. “Oil prices’ reduction have supported that further, as well.”
What’s more, investor sentiment around Europe has improved, says Michael Halford, UK head of investment funds at King & Wood Mallesons.
“We are not seeing investors focused on the macro risks in the same way as they were immediately after the financial crisis,” Halford says. “Just shortly after this crisis, investors actually demanded to see changes [put] into the documentation to mitigate against European macro-risks. They asked, for example, to have dollar-denominated funds as opposed to euro-denominated funds. Investors also wanted specific exclusions from, for example, investments in Spain, Italy and Greece. That has all gone away and there are no signs of this coming back in the fund term negotiations. We are, however, hearing more concerns from our clients about macro risks relating to the Russian and the Ukraine issue, the situation in the Middle East as well as the upcoming UK general election (of which more later).”
It’s understandable limited partners are keeping an eye on various macro issues. But it is important to remember that a benign environment is not the end-all-be-all for private equity, says Nicolson. “If you look at recent vintage years, we certainly think that 2011, 2012 and 2013 will be attractive.”
Calnan agrees. “If an investor buys risk assets in a recession, chances are they will have bought towards the bottom of the pricing cycle,” says Calnan. “So hopefully, GPs that made acquisitions in 2010 and 2011 will be able to demonstrate outperformance versus other risk assets.”
The thing to remember, Nicolson says, is “where there’s macro dislocation and uncertainty there is also opportunity. And this is what private equity is very good at – finding attractive investments wherever you are in the cycle.”