The period between 2001 and 2002 was golden for private equity firms to make investments at depressed multiples of 5.0-6.0x. However, due to the extensive stimulus in the United States and more savvy entrepreneurs, businesses are selling at much higher multiples. It seems as though the “private” equity market isn’t very private any longer. At that time, investors had required returns of 40%. These days, there is so much cash on the sidelines that it is very difficult to find solid companies at relatively cheap valuations.
According to Ms. Chassany and Ms. Alesci of Bloomberg, “private-equity firms tell investors that the years following recessions offer the best opportunity to make money. This time may be different.
Prices paid in leveraged buyouts last year, at the tail of the worst financial crisis in more than seven decades, are about 25 percent higher on average than in 2001 after the dot-com bubble burst, according to Standard & Poor’s Leveraged Commentary & Data. Some transactions in the past three months are valued at levels not seen since the peak of the market in 2007. In addition, buyout firms are using more equity in their deals, which may further limit returns for investors.
Firms are eager to invest a record $507 billion in cash raised before the crisis, triple the comparable figure in December 2001, according to London-based researcher Preqin Ltd. That so-called dry powder, combined with a scarcity of assets for sale and recovering equity markets, means bargains are hard to find, executives at some buyout firms say.
Those seeing another “golden era” are talking “nonsense,” said Christopher O’Brien, New York-based president for the U.S. and Europe at Investcorp Bank BSC, a buyout, hedge-fund and real estate firm that manages $17.6 billion. “There’s a lot of pressure to put investors’ money to work now, and valuations are still high. It’s a seller’s market.”
Buyout firms such as Blackstone Group LP and Carlyle Group are pointing to returns achieved in the years following previous recessions to appeal to investors. Funds that started investing in 1992, after the U.S. savings-and-loan crisis, delivered a median 21.2 percent annual rate of return, and those that began in 2001, after the dot-com market sell-off, yielded 24.5 percent, according to data compiled by Preqin.
The best-performing 2001 funds had annual rates of return of up to 40 percent, a fivefold increase of their backers’ investments in five years. Yields went as low as 6.9 percent in 1998. The 2007 funds, with 34 percent of capital invested, are showing a 17 percent annual rate of loss, according to Preqin.
It’s “a wonderful time to buy assets,” Blackstone Chief Executive Officer Stephen Schwarzman said in an interview at the World Economic Forum in Davos, Switzerland, in January. His New York-based firm is seeking to raise $10 billion for a new global buyout fund, according to a person familiar with the effort.
“Valuations cycle up and down,” Schwarzman said. “They get as low as around five times cash flow. In the most frothy period that can get up to 10 times. There were some silly deals done at 12 times, and right now we’re in the five-to-seven-times zone,” he said.
U.S. private-equity-led transactions in 2009 were valued at 7.7 times earnings before interest, tax, depreciation and amortization, the usual benchmark for valuation in the private- equity world, according to S&P. That compares with six times Ebitda in 2001, when the technology bubble burst, and is more than in 2004. In Europe, buyout firms paid 8.9 times Ebitda last year compared with seven times in 2001. The European multiples are about the same as they were in 2006.
Prices in Europe are “almost as high as they’ve ever been,” Blackstone President Tony James said on a call with reporters Feb. 25. “When there’s something in the right range, it’s very competitive.”
The higher valuations are based on a smaller number of transactions — eight deals last year in Europe compared with 37 in 2001, and 23 in the U.S. compared with 53 in 2001, according to the S&P data.
Some deals are already nearing Schwarzman’s “silly” zone.
KKR & Co., the New York private-equity firm that has $14.5 billion to invest, in January bought U.K. retailer Pets at Home Ltd., owned by London-based Bridgepoint Capital Ltd., for 955 million pounds ($1.5 billion), two people with knowledge of the deal said. The price was between 11 and 12 times Ebitda, the people said.
KKR paid at least 3 percent more than what Boston-based Bain Capital LLC offered for Pets at Home and about 10 percent more than TPG’s bid, three people familiar with the talks said. Bridgepoint bought the retailer for less than seven times Ebitda in 2004 and reaped eight times its investment from the sale, one of the people said. Pets at Home’s Ebitda tripled during the period it was owned by Bridgepoint, the person said.
“We are enthusiastic about the significant further potential for Pets at Home to grow, develop and continue to deliver its unmatched breadth of products, store environment, competitive pricing and customer service,” KKR partner John Pfeffer said when the firm announced the acquisition.
KKR spokeswoman Kristi Huller declined to comment about the terms of the deal.
Marken, IMS Health
In December, London-based Apax Partners LLP bought U.K. clinical logistics company Marken Ltd. for about 12 times Ebitda, or 175 million pounds more than Hellman & Friedman LLC in San Francisco bid, people with knowledge of the deal said.
TPG and the Canada Pension Plan Investment Board paid more than nine times Ebitda for IMS Health Inc., the world’s biggest health-care software provider, when it purchased the Norwalk, Connecticut-based company for $5.2 billion in a deal that closed Feb. 26, according to data compiled by Bloomberg.
“There’s big appetite for assets that have shown growth and resilience through the crisis, and since those are mostly the assets for sale today, it’s not surprising that prices are going up,” Bain Capital’s Managing Director Dwight Poler said. “Private-equity firms are more disciplined when evaluating lesser-quality assets.”
Private-equity-led transactions increased 32 percent to $49.2 billion in the second half of last year from the first half as banks started to lend after a two-year drought, according to data compiled by Bloomberg. That still left transactions by buyout firms last year at a 10th of the $862.8 billion in 2007, the peak of the LBO boom, the data show.
While banks are resuming lending, they are requiring buyout firms to put up more equity to fund their purchases. U.S. LBOs were 54 percent financed with debt in 2009 compared with 65 percent in 2001, according to S&P. In Europe, debt funding represented less than 47 percent of the acquisition price last year, down from 62 percent in 2001, S&P said.
“Deals done with lower levels of debt will have lower risk than those done in the recent past,” Guy Hands, founder of London-based Terra Firma Capital Partners Ltd., said in a speech in Berlin on Feb. 10. “But, of course, there’s the corollary, which is that expected returns to equity will also be lower.”
Andrea Auerbach, managing director and private-equity research consultant at Cambridge Associates LLC, an investment- consulting firm in Boston, has a similar view.
“The more equity you put in, the better the company has to perform to achieve acceptable target returns,” Auerbach said in an interview.
While current valuations may have a negative impact on future returns, that could be offset if multiples drop as deal volume increases going forward.
“This is probably the right time to be deploying money to private equity,” said William Atwood, who helps oversee about $10 billion as executive director of the Illinois State Board of Investment in Chicago and whose pension fund has money with Blackstone. “Keeping in mind that you make the commitment now and the fund won’t close for a year, and by the time managers actually start drawing it down, the world is going to change quite a bit.”
The California Public Employees’ Retirement System, the biggest U.S. pension fund and one of the world’s largest private-equity investors, is equally upbeat.
“Best private-equity investments have historically been made on the heels of recessions,” the pension fund said in a Feb. 16 presentation.
Calpers is one of the biggest backers of Carlyle, whose co- founder, David Rubenstein, made the same point in an interview with Bloomberg Radio on Jan. 27.
“The deals done in 2009 will turn out to be spectacular because they were done at relatively low prices,” Rubenstein said.
Leon Black, a co-founder of the Apollo Management LP, is more cautious. His New York-based firm is focusing on taking part in restructuring deals, rather than acquiring companies through “conventional LBOs,” Black said at a private-equity conference in Berlin on Feb. 9.
“You need reasonable prices, attractive financing and a stable economic environment,” Black said. “Presently, I don’t think we have any of this.””