Adaptation, market uncertainty, and shifting consumer behaviour are driving corporations and investments firms to evaluate their priorities, strategies and operations. Building products, transportation, food production, real estate, airlines, hospitality, and restaurants to name a few, are sectors particularly susceptible to a prolonged recovery owing to their sensitivity to consumer demand. Struggling to adapt, companies within these sectors have become attractive to private equity firms who see in them the arrival of a long-awaited opportunity to put $276 billion in dry powder to work. And the wait has been long as this amount has risen every year to triple since 2012*.
Ian Lynch (Chief Commercial Officer at Intertrust) in a recent PEI article indicated three quarters of managers expect an increase in fund terms as they delay divestiture, especially those nearing the end of their investment cycle. General Partner (GP)-led secondaries to recapitalise portfolio companies and provide liquidity to Limited Partners (LPs) where required is another focus area, as 59% of private equity respondents in our latest Global Private Equity Outlook 2020 also expect volume increases. A vast majority, 92% also expect an upturn in distressed deals and GP-led secondaries while about half of them anticipate a sharp slope to the upturn.
Unfunded commitments are expected to trend into new distressed or non-traditional strategies could popularise Joint Venture (JV) transactions as private equity firms turn to partners’ who have the sector knowledge they lack.
Carve outs in focus
As firms assess their future in a post COVID-19 marketplace, non-core or underperforming business units weighing on performance become perfect carve out candidates. Under current conditions, strategic buyer’s aren’t queuing at six foot intervals, there just aren’t enough. This means active investors, with their perceived premiums and ability to see possibilities, become the best and often only viable option. This view is supported by 79% of the respondents to our survey.
The role of Fund finance in the COVID crisis recovery
(James Rock-Perring – Head of Fund Finance Advisory Services at Intertrust)
Following our webinar on COVID’s impact on fund financing in early April, sponsors have since had time to digest the effect on their portfolios and in turn secure liquidity in the form of asset level facilities and subscription lines where possible to support portfolio companies. Expectedly, a real surge in the use of net asset value (NAV) facilities (or portfolio financing) has enabled borrowing against the NAV at modest loan-to-values ratios. Generally restricted to the later stages of the investment cycle when they mature enough for to be used for defence. For example, they can provide downstream liquidity to a distressed business or to fund M&A activity. The latter has been a focus for managers doubtful of financing in the buyout market and uncertainty with high yield bond financing.
Another notable development has been an increase in the use of advisors for both NAV and subscription line facilities, driven partly by the need for liquidity from a wider net of lenders. In addition, the Limited Partners Advisory Committee (LPAC) are requesting managers to run a competitive process intended to guarantee they’re getting an optimal deal.
Fund finance will play an important role as markets recover over the longer-term. In the medium-term drop-offs in subscription line volumes on the back of reduced fund raising we expect to be offset by an increase in NAV or portfolio level funding.
Increasing interest in Non-Performing Loans
Highlighted in a recent article from the CEPR**; we could also witness an increase of non-performing loans (NPLs). Following the global financial crisis, NPL portfolio investments became more popular. Although the root cause of this crisis is pandemic not systemic, there may be a need for restructuring or resolution should NPLs increase, particularly in severely impacted countries.
Providing operational stability
As the private equity sector grapples with greater complexity and multi-jurisdictional fund structures, operations become more complex. Compounded by the growth in transparency demands on a number of investor and regulatory reporting fronts: portfolio company performance, risk exposures and fee structures, alignment with ILPA templates and AML/KYC requirements. We’re exceptionally well positioned to help you with operational stability and scalability needs under our newly expanded digitisation and advanced technologies capabilities. The majority of the respondents (84%) said they’re optimistic that they’ll benefit from digitisation over the next 12-24 months, highlighting the industry is heading towards a tech-led future, as most industries have already done.
While long-term prospects remain opaque, if we were to look back at previous distressed markets, uncertainty and volatility bring investment opportunity over the long-term.
For us, the changes the sector is facing have continued to drive the way we work with private equity professionals and support their business requirements and aspirations. We remain at the forefront of the industry, helping our clients through this time of profound disruption and market risk.
To read more on the private equity outlook in the coming 12-24 months, download the full report here.
** Centre for Economy Policy Research: https://voxeu.org/article/covid-19-and-non-performing-loans