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Private equity has a serious case of indigestion

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Readers of Antoine De Saint-Exupery’s The Little Prince may recall the hatlike appearance of the snake that swallowed an elephant. After the festive season, some may empathise with that swollen reptile. The private equity industry has ended 2023 in something of a similar state

Private equity companies have struggled to find buyers for their portfolio companies for a number of years now. Companies have had their hands full managing snarled-up supply chains and rampant inflation. Opportunities for successful initial public offerings are few and far between. High valuations for private equity portfolio companies have not helped. 

As a result, the value of assets sold in the US in 2023 was down more than 70 per cent compared with the peak in 2021, according to Tim Clarke at PitchBook. 

That does not gum up the system entirely. The industry has a chunk of committed money — so-called dry powder — that it can call on if it finds attractive companies to buy. But, over time, a dearth of liquidity delays payouts for investors in existing funds, which in turn makes them less likely to allocate new money to the private equity sector.

Already, fundraising has become harder for all but the leading managers. Indeed, comparing the period between 2018 and 2021 and the 18 months to May 2023, the share of private equity money raised by the 10 largest managers has roughly doubled to about 30 per cent, according to a report by Apollo Global Management. 

Pressure on private equity funds to find exits will rise this year. Creative solutions to the industry’s indigestion include effectively selling to themselves, via “continuation” funds. But that merry-go-round can only go so far.

Like idle equity capital markets bankers, the sector looks increasingly reliant on a reopening of the IPO market. Yet stock market gains are still being driven by a few big tech stocks, leaving public markets an uncertain bet. In the meantime, the megafunds of the private world look best placed to gobble up choice morsels from struggling mid-market peers.

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