The year that wasn’t

Does anyone need me to tell them that 2009 was a tough year for private equity in Europe? In case there was any room for doubt, the results are in and 2009 was officially the European buyout market’s slowest year on record, according to the European Management Buyout Review from Nottingham University’s Centre for Management Buyout Research (CMBOR).

A total of 828 buyouts were completed across Europe in 2009, the lowest number since 1988. The corresponding figure for 2006 was 1506. The value of all buyouts – at just €19.1 billion – was the lowest it has been for 14 years. Just 378 exits completed last year – the lowest total since 1997 – generating just €9.9 billion in proceeds: a far cry from the €103.9 billion generated in 2007.

Key among the obstacles to deal flow was the lack of leverage. Accordingly, when deals were done, the leverage component was shrunk, as was the price paid. On average debt constituted 33 percent of buyout financing, says CMBOR, down from 51 percent in 2007. For large buyouts – in the €100 million-plus category – EBIT multiples dropped to 11.1 from 16 in 2008.

These statistics may not shock; 2009 was a year that many private equity practitioners will have already filed away in their memory banks in a locked box marked “do not open under any circumstances”.

The drought of enticing investment opportunities, and private equity firms’ difficulty in completing those that did appear during the year, was just one facet of what could readily be termed “the year that wasn’t”. Fundraising was way down on previous years. And of course unrealised portfolio company valuations – ephemeral as they may be – took a dive.

Taken in context, however, none of these figures should weigh too heavily on the private equity industry in the long term. The decline in fundraising looks dramatic, but in the context of the volume of private equity capital currently available for deployment – estimated to be around $490 billion globally – this is no bad thing. Given that auction processes for good quality assets are currently running as hot as ever, you could say there is already more than enough capital in the system. And while short term IRRs can look dreadful – and prompt some tough conversations for private equity advocates within LP organizations – it is the long term performance data that will really count.
 
The dramatic drop in deal activity – while frustrating – can also be viewed in a positive light. On the surface, 2009 had promised to be a golden vintage year, but the deals didn’t happen because the debt wasn’t available in its historic proportions, sellers who didn’t need to sell, didn’t, and – equally importantly – visibility was poor. Regardless of how much money a GP can or can’t borrow, if projecting earnings is a lottery, the deals shouldn’t happen. Of course private equity firms will always want to buy at the bottom of the market, to put the wind behind them as they try to build value, but as one GP put it recently “there is no one turning point”. The window for investing into what should be an epic vintage will be protracted. While there are some positive macro-economic signs emerging from various quarters, it is still unclear as to whether Europe has turned the corner into sustainable growth or is bumbling towards a “double dip” recession. GPs who focused more on their existing portfolio than on newinvestments during 2009 may end up covered in glory if there are more economic headwinds on the way. LPs hate paying fees on uninvested capital, but they hate paying fees on badly invested capital even more.

Drawing on PEI’s musings from the European Private Equity & Venture Capital Association’s well-attended Investor Forum in Geneva, it seems clear that the paucity of 2009 is no longer the foremost concern for LPs and GPs. More pressing is the issue of what happens next. What structural changes lie in store for the industry, and how will they affect its ability to raise capital going forward? How many existing firms will be able to raise new funds? And how will institutional investors rate the attractiveness of private equity going forward, especially in Europe where it’s not just the market environment that must improve, but also the regulatory threat that needs to abate. 2009 was in many ways a write-off; now to the challenges of the future.