The 3Q 2017 US Private Equity Breakdown, sponsored by Merrill Corporation and co-sponsored by Twin Brook Capital Partners, Murray Devine and BKD, analyzes the current status of each phase of the US PE cycle, from investing to fundraising. Record levels of capital commitments persist even though dealmakers have pulled back, with deal volume down by more than 10% relative to the first three quarters of 2016. In turn, pricing pressures remain, likely exacerbated by competition for viable targets for PE buyout shops. Looking ahead, general partners may feel even more pressure from limited partners to put the massive hoard of committed capital to work.

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Report Highlights Include:

  • PE deal flow by sector and size
  • Analysis of transaction multiples
  • Metrics on exit and fundraising activity
  • Tables highlighting select transactions and most active investors in 3Q

Introduction

Key takeaways

  • Private equity firms invested $163.4 billion across 959 PE deals in the US during 3Q, bringing year-to-date totals to $401.7 billion in deal value across 2,820 transactions. Despite the prolonged elevation in fundraising, deal volume through the first three quarters is down 11% compared to the first three quarters of 2016.
  • PE exits continued to slow in 3Q with $40.8 billion in value exited across 224 companies, a 20% drop in deal volume from 2Q. The decline has been largely driven by a pullback in exits via strategic acquisitions, the number of which has decreased 24% through the first three quarters compared to the same period last year.
  • US-based funds raised $62.4 billion in commitments across just 58 vehicles in 3Q 2017. The stockpile of capital is accumulating across fewer funds; the median fund size for all PE strategies increased to $265.0 million through 3Q 2017. 3Q’s fundraising frenzy was led by Apollo Global Management closing on $24.7 billion for its ninth flagship fund, making it the largest buyout fund ever raised.
  • While PE dealmaking has slowed in 2017, activity has been resilient in the software sector. PE firms completed 345 software deals totaling $39.5 billion through the close of 3Q 2017.

In the following pages, we’ll examine each phase of the industry’s cycle and investigate the factors most relevant to industry participants. Beginning this quarter, we’ve revised our methodology for calculating extrapolated deal values. Through this and other recent methodology changes, including the new estimates data introduced last quarter, we aim to provide an even more accurate picture of the private markets. Please see the methodology page of this report for more details.

We hope this report is useful in your practice. Please feel free to contact us at [email protected] with any questions or comments.

DYLAN E. COX

Analyst II

Dealmaking remains challenging

Overview

PE firms invested $163.4 billion across 959 PE deals in 3Q, bringing year-to-date tallies to $401.7 billion in deal value over 2,820 deals (estimated). Despite record fundraising levels, deal volume through the first three quarters is down 11% compared to the first three quarters of 2016. Following a strong year of fundraising and considering US PE firms are sitting on $555.6 billion of dry powder, it is surprising to see a drawback in PE dealmaking. Several factors may be fueling the reluctance to complete deals, with two of the biggest centering on price and quality.

3Q 2017 US Private Equity Breakdown

The pullback in PE dealmaking and strategic acquisitions has done little to ease pricing pressures, with the median EV/EBITDA multiple remaining at 10.5x for 2016 and 2017. On top of stubbornly high prices, the number of viable targets is likely lower than normal following the record levels of dealmaking in 2015 and 2016 on both the strategic and PE sides. While it is probable high prices and limited acquisition targets will remain deterrents over the near term, low yields and near-negative returns on cash holdings may increase the pressure general partners feel from limited partners who want committed capital put to work.

3Q 2017 US Private Equity Breakdown

Where are the mega-deals?

The industry in 2017 has been devoid of the type of mega-deals we’ve seen in past years, such as PE-backed Dell’s acquisition of EMC for $67 billion in 2016 or the $55 billion acquisition of Kraft Food Groups by PE-backed Heinz in 2015. The largest US PE deal to close this year has been BDT Capital Partners’ $7.16 billion buyout of Panera Bread. 2017 has seen megadeals move overseas, with the two largest PE deals completed around the globe taking place outside of the US; this does not include the recently announced $18 billion acquisition of Toshiba’s memory chip business by a Bain Capital-led consortium.

3Q 2017 US Private Equity Breakdown

Despite the lack of such large deals, capital invested is on pace to roughly match 2016 numbers. As our deal flow figures do not include 22 announced deals with initial valuations above $1 billion, aggregate value might finish the year stronger than expected if several of these deals are completed in 4Q.

3Q 2017 US Private Equity Breakdown

Add-ons remain key

Add-ons continue to be a key strategy in this high-priced environment, comprising 64% of all US-based buyouts in 2017 to date. As discussed in a recent analyst note, add-ons generally involve smaller companies and transact at lower price multiples, which can help average down the cost of the platform company. Add-ons also offer a quick injection of revenue growth in a low-growth environment; however, what was once a potential arena of proprietary deal flow and relatively lower-priced acquisitions is now a competitive landscape.

A greater portion of PE firms are holding portfolio companies longer and utilizing add-ons to grow platform companies and enhance operations. As a result, the proportion of PE inventory acquired over five years ago has reached 38%, the highest proportion recorded in our dataset. Despite the high-priced, apparently seller-friendly market, exit activity is slowing and we expect inventory age to continue increasing. As such, inorganic growth through add-ons will remain a large portion of buyout activity.

IT garners nearly a fifth of deal flow

Deals by size & sector

3Q 2017 US Private Equity Breakdown

3Q 2017 US Private Equity Breakdown

PE proliferates into software

PE activity in software

While PE dealmaking has slowed in 2017 overall, activity has been resilient in the software sector. PE firms completed 345 software deals totaling $39.5 billion through 3Q 2017, up 3% and 7%, respectively, from last year’s already rapid pace. Due to this increased activity, software now accounts for 68.3% of deals completed in the IT sector, a figure that has grown steadily over the last decade.

The surge in deal flow has been aided by a flurry of tech-focused PE funds closing as of late, with firms such as KKR, Silver Lake, and Thoma Bravo all raising such funds in recent years. Vista Equity Partners’ recent flagship tech fund (likely to make a few splashes in software) is another example that has garnered a lot of attention; however, there has been limited public commentary on Vista’s $500 million vehicle dedicated solely to enterprise software companies, which also closed in 2Q 2017.

3Q 2017 US Private Equity Breakdown

Part of the increasing appeal of software is driven by the widespread industry transition to the software-as-a-service (SaaS) business model, which features recurring revenue streams and steady cash flows—highly attractive features for PE. In addition, software services can scale without heavy investment and have the potential for lower customer turnover (particularly for enterprise software) than more traditional business models.

The appetite for software investments has even spread to non-tech strategic acquirers, as evidenced by IKEA’s recent announcement that it will acquire platform software company TaskRabbit (the gig economy platform for home repairs and moving). It seems that no company is immune to software’s influence. We may soon think of the space as less of an industry itself and more as a necessary component of every other one.

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