As the investment landscape has shifted in the past five years, with much shorter processes and lighter due diligence, it is forcing general partners to find an edge, according to Béla Szigethy and Stewart Kohl, co-chief executives of the Riverside Company.
What were some of the big trends in 2017?
Stewart Kohl: There’s the recognition that we are in a strong seller’s market. Each firm is trying to figure out how to be successful and generally that means exiting companies that are ready for exit. It means trying to find more ways to create value in the companies you already own. It means a special attention to add-ons. And it means when you are making a new platform acquisition, what is your edge and how are you going to be able to pay the multiples demanded in this market and still generate a good return? Often that also means deeper industry expertise and more operating resources. The seller’s market expressed itself not just in higher multiples, but in more seller-friendly processes that make it harder to buyers.
Béla Szigethy: Today the process as a buyer is brutal and as a seller it’s beautiful. Five years ago, you would go to market with a selling memorandum and it would sit in the market for a while. You would get together a few bids and then you would get a nice long process of management presentations and some due diligence period with some back and forth. The whole process would probably take about six months. Today the process can take as little as 60 days. What’s really shortened up is the period of time following the management presentation to the time the deal closes. It can be shortened to as little as a day or as much as 30 days. Buyers have to act extremely quickly in order to win the deal. This applies to the best-looking companies, the hottest deals.
There’s also been a trend on the LP level where, through the middle of 2017, they continued to cut fees and continued to reduce the number of GPs, and interestingly that trend came to an end. They’ve come down to a level that they now find satisfactory. It’s not to say they’re not going to replace underperforming GPs with other ones. But they’re pretty happy with the level of GPs that they have on the roster now. If anything, maybe they’ll add a few in 2018.
What surprised you most in 2017?
BS: For a number of years we had thought that interest rates would go up and multiples would go down. If you had asked me at the beginning of 2017 do you think that will happen, I would have said yes. That didn’t happen. It’s a continuing surprise how low interest rates have remained and how high multiples have gone. They’ve actually gone even higher in 2017 than they were in 2016.
SK: I don’t think many people predicted that public equity markets would rise by over 20 percent. That has a lot of implications including on the denominator effect. It increases the denominator. That’s one surprise: how robust the public equity was and how it drove the need for more private equity exposure. The second implication of that, since GAAP requires private equity portfolios to mark to market, the preferred way to mark to market is using comps, and public comps are the best ones because they’re factual. This led to private equity valuations also being up significantly. It’s a pleasant surprise although we all need to keep in mind that what goes up can go down.
What do you predict for this year?
SK: Either we maintain our forecast on rising interest rates, because it’s bound to happen someday, or we change it because we’ve been wrong for so long. I still expect to see an increase.
BS: Early projections from portfolio companies are quite robust with the expectations for double-digit growth. That would be a continuation of the robust growth that they continued to experience in last year perhaps a bit higher in 2018 than what we saw in 2017.
The Riverside Company is a lower mid-market firm with more than $6 billion in assets under management focused on private equity and private debt.