Private Equity Spotlight: 2015 In Review by Preqin
In this month’s Spotlight, we provide a summary of this year’s top 10 hottest topics in private equity that Preqin has covered in the past 12 months.
1. Buyout Holding Periods
The average time taken to exit private equity-backed buyout investments has increased annually since 2008. As illustrated in Fig. 1, the average holding period for portfolio companies of private equity buyout fund managers has gradually increased, from 4.1 years in 2008 to 5.9 years in 2014. This further alludes to the difficulties found in exiting companies acquired at high valuations during the buyout boom.
Although the year is not yet over, Preqin’s latest data shows that the average holding period for portfolio companies exited in 2015 YTD has dropped to 5.5 years. This underlines the favourable exit conditions which have created a sellers’ market. Although fund managers are generally holding onto portfolio companies for longer, the number and aggregate value of private equity-backed exits have remained strong, with 2015 YTD witnessing 1,595 such exits valued at $426bn – closing in on the record total seen in 2014 at $457bn.
2. Performance of Sector-Specific vs. Generalist Buyout Funds
June’s edition of Private Equity Spotlight compared the performance of sector-specific buyout funds with that of generalist buyout funds over a number of different metrics, noting a slight edge for the industry-focused vehicles.
Using Preqin’s performance data for 1,690 buyout funds, with vintages ranging from 1982 to 2012, Fig. 2 shows that there are a greater proportion of sector-specific funds that rank as top-quartile performers: 29% compared to 24% of diversified buyout funds. While there is no guarantee of future performance, this analysis shows that fund managers that exclusively target one industry have historically been slightly more likely to achieve top-quartile returns.
3. The Growing Prominence of Alternative Assets
Following the release of the 2015 Preqin Alternative Assets Performance Monitor, we featured the book’s Executive Summary in our September edition of Private Equity Spotlight. The alternatives industry has not only gained in prominence over recent years, but industry assets under management (AUM) have also seen significant growth; Preqin estimates that AUM has grown steadily from $5.5tn in 2012 to $7.1tn as at Q1 2015.
With alternatives growing in size and significance within the investment landscape, it is imperative for investors and fund managers alike to understand and interpret wider industry trends in an ever-changing environment. For investors, the diverse nature of alternatives coupled with their inherent differing characteristics – liquidity terms and investment horizons, for example – means that direct comparisons between asset classes are challenging. By analyzing key metrics over overview of alternative asset performance in the market – an invaluable tool for any investor or fund manager.
4. Sovereign Wealth Funds Grow Assets in 2015
In line with the release of the 2015 Preqin Sovereign Wealth Fund Review in April 2015, we found that AUM for sovereign wealth funds globally reached $6.31tn as at March 2015 – increasing by more than $900bn in 18 months. This is despite falling commodity and oil prices, which many of these institutions rely on for funding. Assets therefore grew from continued funding from reserves and governments, as well as from investment returns.
Alternative assets are an increasingly important part of these institutions’ portfolios, particularly as they seek to diversify their portfolios and acquire assets that can generate yield and help meet their long-term objectives. As at December 2015, total assets for sovereign wealth funds that are looking to invest in private equity stands at $6.0tn.
5. Private Equity Unrealized Assets
In September 2015, Preqin released a special report on Private Equity Unrealized Assets, drawing on data from Preqin’s Secondary Market Monitor database on tail-end funds and their asset levels. Distributions from private equity funds have been very strong in recent years as managers have taken advantage of improving market conditions to realize value from the remaining assets in their portfolios. This has somewhat alleviated concerns regarding the overhang of unrealized value in ageing funds; however, the issue has not yet been fully rectified – particularly as funds raised in the boom years of 2005-2008 reach the 10-year mark. Fig. 3 illustrates the aggregate remaining value in funds with a 2005 vintage and older, i.e. those that are very close to – or past – their original planned lifetime, with private equity funds typically having a 10-year term.
For buyout and growth capital funds, there remains approximately $115bn in these older vehicles, with a notable amount ($54bn) in 2005 vintage funds. Only 19% of the aggregate unrealized value in 2005 vintage funds and older is managed by firms that have not closed a vehicle since 2008.
6. Performance by Buyout Fund Size
With most investors believing that small-sized and mid-market buyout funds present the best opportunities in private equity, August’s Private Equity Spotlight examined how performance varies across the different sizes of buyout funds using various performance metrics. Fig. 4 shows the risk/return patterns of buyout fund sizes for vintages 2002-2012; the position of each strategy is plotted by its median net IRR and associated level of risk, represented by the standard deviation of net IRR. The size of each sphere is determined by the total amount of investor commitments to that strategy.
Preqin’s analysis shows that there is no clear distinction in the performance of the different buyout fund sizes, with variation across metrics for each size bracket. Importantly, there is a significant difference in the variability of the performance of different fund sizes, as indicated by the different levels of standard deviation of net IRR, as seen in Fig 4. It remains clear, therefore, that what matters most is the ability of LPs to select the best fund of any size or type in order to secure the greatest returns, rather than relying on a certain category of funds.
7. Strong Venture Capital Deal Activity Seen in Asia
Asian private equity is a newer and less-developed market compared with the established industry centers of North America and Europe; nonetheless, it plays a major role within the global private equity landscape. In Preqin Special Report: Asian Private Equity, we take a complete look at the Asian private equity industry, including the results of our recent GP and LP surveys, focusing specifically on Greater China, Northeast Asia, ASEAN and South Asia.
An interesting trend in Asia over 2015 has been the buoyance of the venture capital deal landscape. As Fig. 5 shows, by the end of August, venture capital deal value had already surpassed 2014’s total of $22.4bn to reach $31.6bn. As at December 2015, the figure stands at an impressive $46.4bn.
Recent developments in Asia fueling these trends include the introduction of central government policies that encourage angel investments and the development of start-ups in China, as well as the rise of accelerators and a budding entrepreneur ecosystem in South Korea. India continues to account for the majority of activity in South Asian countries, with a fairly established reputation as a venture capital hub in the region. Since the institutionalization of the venture capital industry in the 1980s and the IT boom in the 1990s, firms from across the world have poured increasing flows of venture capital financing into promising early-stage Indian companies.
8. Secondary Market: Challenging the Illiquidity Myth
In March, Preqin produced a special report on the recent development and growth of the secondary market. In particular, the report examines secondaries fundraising, buyer activity, transactions and secondary market sellers.
The secondary market for fund interests has grown massively since 2009. Implicit in a larger market is the increased participation of the limited partner universe; no longer a last resort for distressed investors seeking liquidity, the secondary market now serves as a viable tool for the active management of alternative asset portfolios. The nature of completed transactions is becoming more sophisticated and innovative to fi t the needs of sellers. A key theme that has emerged recently is the market’s viability as a solution for GPs and LPs seeking end-of-life solutions for funds, through both the sale of interests in tail-end funds and more complex GP restructurings.
Additionally, the report outlines the results of our survey of secondary fund managers, including the amount of capital managers planned to invest in 2015, their expectations for debt usage as well as which investor types they expect to be active next year.
9. Fund Terms for Separate Accounts and Co-Investments
Following the publication of the 2015 Preqin Private Equity Fund Terms Advisor, September’s Spotlight featured a sample from the new book. A new addition to this year’s release was the inclusion of fund terms data on separate accounts and co-investments, both of which are developing non-traditional ways for LPs to access the asset class. As shown in Fig. 6, co-investing LPs generally receive favourable terms when compared with their fund commitments. When looking at the rate of carried interest, just 25% of LPs are subject to the same rate as in a usual private equity fund. Almost half of LPs that co-invest pay no carry on these co-investment commitments – a significant benefit and attraction of this alternative way to commit to the private equity asset class.
10. Majority of LPs Claim Co-Investments Outperform Fund Investments
Last month, Preqin published a special report on private equity’s hottest topic: co-investments. Having surveyed over 220 LPs and over 300 GPs, the report outlined the latest fi ndings concerning industry sentiment towards co-investments, as well as the current level of activity of both investors and fund managers.
Most LPs have found that their co-investments outperform their private equity fund commitments, with 80% of investors surveyed noting outperformance in their co-investment holdings (Fig. 7). An impressive 46% of respondents stated that co-investment positions outperformed fund commitments by over 5%. In contrast, only 3% of LPs witnessed underperformance.
It is worth mentioning that many LPs responded by stating that it was too early to tell in regards to co-investment returns, showing that the co-investment structure remains a relatively new, albeit growing, way of committing to the private equity asset class.