Deloitte’s Private Equity Confidence Survey: The calm after the storm?

Cautious optimism in private equity industry

In the wake of the economic downturn, 2008 saw the collapse of a number of international acquisitions, both strategic and financial. This was not good news for private equity (PE) and there was significant destruction of value by public fund managers as share prices declined.

“The credit crisis has reshaped the corporate landscape and the PE industry with investors being cautious before committing funds,” says Sean McPhee, Leader of the Private Equity Group at Deloitte. “This resulted in fewer deals being concluded and, as liquidity dried up, the size and nature of deals changed; the focus has been on preserving and enhancing the value of the portfolio.”

According to the seventh forward-looking Deloitte Private Equity Confidence Survey (PECS) conducted in collaboration with the Southern African Venture Capital and Private Equity Association (SAVCA), among investment professionals in the PE industry, there is a feeling of optimism among PE practitioners on the outlook for the global economy. 66% of respondents expect the economic climate to improve and 72% anticipate an increase in deal volumes over the next 12 months.

“This is a more optimistic view since the previous survey in the first quarter of 2009,” continues McPhee.

This improved market sentiment is, however, tempered by caution as to how the economic landscape will develop. It is unclear what effect the level of economic stimulus packages deployed by western governments will have on economic growth rates in the global economy and the ability and appetite of banks to extend liquidity to support individuals and companies.

This is evidenced by a comparatively low 37% of respondents expecting an increase in multiples and an overwhelming 64% expecting no change in competition for assets. This suggests that fund managers are planning to adopt a targeted approach, sticking to known sectors and entities, and not being willing to be drawn into the bidding wars which occurred prior to the downturn.

There is less appetite for exits than acquisitions over the next 12 months. The theme of caution and uncertainty continues with fund managers’ approaches to exit strategies. Whilst 72% of respondents expect an increase in deal volumes over the next 12 months, only 40% expect the volume of exits to increase.

The conclusions from this are twofold:

• A significant portion of respondents clearly believe that maximum value will not be achieved from exiting over the next 12 months as the market settles and boundaries are re-established in regard to acceptable purchase and lending multiples on transactions.

• The majority of acquisitions will still be made from trade sellers. Although 29% of respondents expect exits to be made to other PE firms, it is expected that the secondary PE market will remain quiet compared to the more established US and European markets.

77% of respondents expect the combined value of current portfolio companies to be higher in 12 months. Whilst respondents are not expecting to exit many investments over the next 12 months, it is clear that a growth strategy towards exit is high on their agenda. Time spent on portfolio management remains high and fund managers will continue to look at strategic bolt-on acquisitions and add value to the portfolio companies to position them well for exit.

There may be a shift in attitude to further involve BEE at a fund level as BEE continues to be a major driver of M&A activity and the trend has been towards more broad based BEE transactions. 41% of respondents expect funds to be black empowered in the next 12 months, the highest level since 2005.

The views of investors on PE-based returns are divided: 21% of respondents believe that PE/VC funds will offer inferior risk-adjusted returns, much increased from a previous high of 8% in previous surveys. But 40% of investors expect to increase their allocation of funds and 79% of respondents expect that PE funds will outperform the JSE in the medium term.

“The fiscal year 2009 saw a milestone being reached, with over R100 billion of funds under management. This clearly shows how the industry has grown and has confirmed PE as a significant asset class,” concludes McPhee.