– Despite Regulatory Worries, Cash Flow Cushions for Debt are HIgh
– Secondary Funds are Raising Large Amounts Despite Lofty Pricing
– Africa “Hots Up”
– Canada has “Found the Key to Pension Fund Investing”
– Insights into Family Office PE Investment
DESPITE REGULATORY WORRIES, CASH FLOW CUSHIONS FOR DEBT ARE HIGH. “Banks have come under increasing scrutiny from regulators for taking on risky loans to finance corporate buyouts,” reports the Wall Street Journal. But according to new data from Standard & Poor’s Capital IQ Leveraged Commentary & Data, “cash flow cushions built into this year’s largest leveraged buyouts will help lower these deals’ risk of default.” Deposit-taking banks have been cutting back on leveraged loans in response to U.S. guidelines recommending that they not provide financing for credit packages exceeding six times the borrower’s cash flow. This has allowed investment banks and funds to take market share, keeping loan volumes and multiples high. The average leverage ratio this year stands at 6.8 times cash flow for the year’s 10 largest private equity deals, the highest since 2007. Yet LCD notes that the particularly low interest rates PE firms are benefitting from means that cash flow on average for the largest deals amounts to 2.7 times interest payments, the highest multiple in 12 years. That’s providing what LCD calls a significant “margin of safety” against default.
SECONDARY FUNDS ARE RAISING LARGE AMOUNTS DESPITE LOFTY PRICING. Bloomberg reports that Coller Capital, which buys existing private equity fund stakes from their original investors via the secondary market, is raising a seventh fund “similar in size” to the $5.5 billion pool it raised in 2012. Coller “joins firms seeking $17.4 billion” for secondary deals. Lexington Partners is targeting “as much as $10 billion,” which would exceed the record $9 billion Ardian raised earlier this year. The groups “are competing for deals in a market where prices have reached the highest levels since the 2008 financial crisis,” but they do not appear to be having difficulty attracting investors. Though large buyout funds are typically selling at slight premiums to trailing 3-month net asset value, many investors are apparently not bothered. In exchange for buying secondaries at prices close to or above net asset value, investors hope to get reduced risk and a faster return of capital than would be possible through commitments to primary fundraising, where they must invest in blind pools that hold no assets and which won’t be investing – much less selling – for some time.
AFRICA “HOTS UP.” “Concerns on the scale of the Ebola crisis, current levels of political unrest and plunging commodity prices would have sent investors rushing out of Africa not long ago,” writes the Financial Times. “But dealmaking in the sub-Saharan region is buoyant as most investors set aside short-term worries and bet big on the continent’s growth prospects.” There have been 631 merger and acquisition deals in sub-Saharan Africa so far this year, “the highest number for a comparable period since at least 1995 and up 10 percent from last year.” A key “driver is the arrival of global private equity firms including Carlyle, KKR and Blackstone, joining smaller Africa-focused buyout groups such as Brait, Abraaj, Helios, Development Partners and AfricInvest.” Says Joseph Rohm, portfolio manager at Investec in Cape Town: “PE activity, both exits and entries, is driving M&A at the moment.” Adds Colin Coleman, head of investment banking at Goldman Sachs in Johannesburg: “There is great enthusiasm about Africa – particularly as other emerging markets’ economic growth disappoints.” The big question is will it last. Much may depend on how quickly a deep bench of private equity expertise can be built in the region.
CANADA HAS FOUND THE “KEY TO PENSION FUND INVESTING,” says the New York Times DealBook. “This is pension fund investing, Canadian style: lower management costs, freedom from political meddling and nonexistent funding shortfalls.” It’s a model that has led the Canadian pension plans “in search of higher returns” through “global corporate buyout, infrastructure and real estate.” The ingredients of this model are funds that “are free of government and union interference,” that “look at the long-term” and where salaries of pension officials “resemble those of bankers, rather than bureaucrats.” The approach “has delivered solid returns.” The Ontario Teachers’ Pension Plan, which “established the Canadian model” has delivered an average return of 10.2 percent over 24 years. Crucial to OTPP’s success is a more than 25-year-old practice whereby the teacher’s union appoints the plan’s directors “based on their background in finance.” Canada’s public pension plans offer senior employees multi-million dollar compensation packages, something which state plans elsewhere have had difficulty doing.
A GOOD PICTURE OF FAMILY OFFICE INVESTMENT IN PE. Private Equity International’s second annual “Smart Money” survey of 64 family offices offers a wide range of useful insights into their actions and intentions. Almost 50 percent of survey participants increased PE exposure over the last 12 months, while only 13 percent cut allocations. Over the next year, a third are planning to increase PE investment versus just 11 percent who intend to cut their allocation. Seventy percent of participants call direct investment “part of the DNA of a family office,” 44 percent engage in opportunistic co-investment, while 15 percent intend to start co-investing in the next 12 months. Nearly four-fifths are active participants in the secondary market for existing PE fund stakes. In an article covering the survey’s most salient points, PEI reports that “mid-market PE and distressed/turnaround investment are the most popular strategies” and “large buyout the least favored,” while heathcare and consumer goods are the most popular sectors.