Chicago, IL — The majority of fund managers (75 percent) think the current environment is either "somewhat" or "very favorable" for private equity funds looking to invest, according to the fourth annual PErspective private equity study by BDO USA, LLP, one of the nation's leading accounting and consulting organizations.
However, fund managers are not expecting a sudden boom in deal volume anytime soon. Fifty-seven percent of fund managers - regardless of fund size - expect to close between two and four new deals during the next 12 months, which is only a small increase from the 47 percent of fund managers who closed between two and four new deals during 2012. Fund managers did, however, report a more optimistic outlook than last year, when only 7 percent of respondents expected to close more than four new deals in the year ahead. Now, looking into 2013, 36 percent of fund managers expect to close more than four new deals during the next 12 months.
"Political and regulatory uncertainty, combined with the dearth of projects meeting fund managers' criteria, made 2012 a disappointing year for many private equity fund managers who saw both deal volume and capital invested decline," said Lee Duran, Partner and Private Equity practice Leader at BDO. "Even so, many fund managers have taken steps to enable them to succeed in the 'new normal' investment environment and remain confident that 2013 will bring new opportunities to put their capital to work."
In fact, despite fund managers' cautious outlook regarding deal flow volume, respondents are hopeful they will continue to invest significant amounts of capital in the coming year. According to BDO's study, nearly 10 percent of fund managers expect to invest more than $500 million of capital during the next 12 months, and another 15 percent expect to invest between $101 million and $500 million of capital in 2013.
Fund managers also remain confident in their primary investment strategies. Only 11 percent of respondents have asked their Limited Partners to allow them to change investment strategies to broaden opportunities and only 9 percent said they will do so during the next 12 months. Fund managers at large funds - those with more than $1 billion in assets under management - were the most likely to reevaluate their investment strategies, with 22 percent having done so in the past year and 16 percent indicating they will do so in the coming year.
Secondary Buyouts Expected to Drive Deal Flow
When it comes to opportunities for deal flow, secondary buyouts are expected to be a major driver in 2013. According to BDO's study, 64 percent of fund managers believe private equity funds exiting their current investments will be the key driver of private equity deal flow in the next 12 months. Another 14 percent reported private equity funds investing in distressed businesses will be the key driver and 10 percent thought it would be corporates seeking financing for strategic acquisitions.
"Secondary buyouts emerged as a prominent exit and deal-sourcing opportunity in 2012," said Ryan Guthrie, Partner in the Private Equity practice at BDO. "Fund managers expect this trend to continue in the New Year as private equity firms seek out opportunities to realize a return on their mature investments, many of which were made before the financial downturn."
Funds Increase Holding Periods, Look to Sales to Strategic Buyers to Generate Returns
While exit activity may continue to increase in 2013, fund managers' expected average holding period for individual portfolio companies is also on the rise. According to BDO's study, the majority of private equity fund managers (82 percent) indicated their current expected average holding period is longer now than 12 months ago. Of those with longer holding periods, the largest percentage of respondents (35 percent) indicated their expected average holding period is now 7-12 months longer and another 29 percent reported it is 13-18 months longer. However, only 6 percent (down from 19 percent last year) of respondents indicated their expected average holding period is currently more than 2 years longer than it was 12 months ago.
When asked how their exit assumptions have changed when compared to 12 months ago, 35 percent of fund managers reported an increased focus on sales to strategic buyers, 11 percent reported an increased focus on sales to financial buyers, and 9 percent indicated an increased focus on a long-term hold. Only 4 percent reported an increased focus on IPOs, up from just 2 percent in last year's study.
With the exception of IPOs, fund managers' changes in exit assumptions correspond with their expectations for the greatest returns. The majority (64 percent) of fund managers expect sales to strategic buyers to generate the greatest returns during the next 12 months, followed by 15 percent who think IPOs will generate the greatest returns, and 11 percent who reported sales to financial buyers will do so. One in ten fund managers (10 percent) reported that exits will not generate a positive return in the current market.
Manufacturing & Technology Industries Attract Investors, Experience Fluctuating Valuations
With regard to investments by industry, the largest percentage of private equity fund managers identified manufacturing and technology (equally, 25 percent) as the industries that will provide the greatest opportunities for new investments during the next 12 months. When it comes to manufacturing, that's consistent with last year's study when 28 percent of respondents identified it as the sector that will provide the greatest opportunities. For technology, however, that represents a marked uptick from last year, when only 10 percent of fund managers identified it as the most attractive sector for new investments in 2012.
However, when it comes to pricing considerations, fund managers expect to face sellers' rising pricing expectations in the year ahead. One in five respondents (21 percent) expects the technology sector to experience increasing valuations during the next 24 months. That's more than any other sector with the exception of healthcare and biotech, where 30 percent of fund managers expect to see increasing valuations.
The healthcare and biotech industry was also identified as an attractive sector for new investments in 2013, with 19 percent of respondents indicating that it will provide the greatest opportunities, followed by natural resources and energy (17 percent), financial services (5 percent) and media/information (4 percent). Only 3 percent of respondents indicated that retail and distribution will provide the greatest opportunities during the coming year. Similarly, the largest percentage of respondents - 24 percent - expects to see decreasing valuations in retail and distribution during the next 24 months.
These findings are from the fourth annual BDO PErspective Private Equity Study, which was conducted from November through December 2012 and examined the opinions of more than 100 senior executives at private equity firms throughout the U.S. with $15 million to $157 billion in assets under management.
Other major findings from the BDO PErspective Private Equity Study include:
Funds Invest Most Capital Toward New Deals, Add-Ons: Nearly three in four (72 percent) fund managers invested the most capital toward new deals during 2012, and another 14 percent directed the most capital toward add-on acquisitions. Approximately 7 percent of fund managers reported directing the most capital toward funding portfolio working capital needs, while paying back portfolio company debt and restructuring debt were both identified as top capital expenditures by 4 percent of respondents.
Funds Continue to Pursue Add-On Acquisitions: Add-on acquisitions will likely receive a significant amount of capital in 2013, as well, with 87 percent of fund managers reporting they will seek add-on deals in the year ahead. That's compared to 81 percent who reported seeking add-ons in 2012. Fund managers at smaller funds - those with less than $250 million in assets under management - reported the largest shift in their focus on add-on deals. Eighty-seven percent indicated they will seek add-on acquisitions in 2013 compared to only 76 percent who did so in 2012.
South and Central America Continue to Present the Greatest Opportunity for New Investments: The largest percentage of respondents (42 percent) - regardless of fund size - believe that, other than North America, South and Central America will present the greatest opportunities for new investments during the next 12 months. Large funds - those with more than $1 billion in assets under management - on the other hand, are looking to Continental Europe for investment opportunities in the coming year, with nearly half (47 percent) identifying that region as the area that will present the greatest opportunity for new investments in 2013.
The BDO PErspective Private Equity Study is a national survey conducted by PitchBook, an independent and impartial research firm dedicated to providing premium data, news and analysis to the private equity industry. More than 100 senior executives at private equity firms throughout the U.S. with $15 million to $157 billion in assets under management responded to BDO's latest study, which was conducted from November through December 2012.
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