Deal generation is top of mind for sponsors as record fundraising continues to fuel a hypercompetitive environment.
Jeff Greenip, global head of financial sponsors investment banking at Jefferies, said the evolution of deal sourcing in recent months has included a shift toward bilateral deals — those that stem from sponsors having direct dialogue among themselves. That’s been driven partly by efforts to preempt competitive auction processes, he said.
Fred Lim, a partner in Goodwin Procter’s PE group, agreed, noting that sellers are willing to be more patient given the abundance of buyers.
“There was a time when preemption was the game and people were trying to get ahead of a lot of processes,” Lim said. “It seems like the market — sellers — have gotten wise to that and are letting processes play out.”
If preemption tactics are no longer as effective as they once were, asset selectivity remains more important than ever.
Quality businesses are commonly trading at mid-teen multiples of Ebitda — significantly higher than a few years ago — while even multiples upward of 20x to 25x are no longer outliers, said Andrew Olinick, partner and co-head of 3i Group’s North America private equity team.
“What does that mean? You’re having to be much more selective in where you spend your time. … Even in situations where you know a company [years in advance], you have to weigh how competitive it is going to be versus your time,” Olinick said.
Because the universe of potential buyers is so rich, bankers and sellers have the opportunity to be more targeted, which is ultimately more efficient for management, added Trevor Rich, a partner in the Los Angeles office of Lovell Minnick Partners.
“We are true believers of specialization,” Rich said. “We have always focused on financial services, and because of that, we have a credible track record and we can play to that. That’s where you get management excited.”
For example, Rich said, in many instances the firm prevails in a process because of its deep sector specialization and not necessarily by being the highest bidder.
“We spend a lot of time looking for the picks and shovels, the enablers that are driving the ecosystem,” Rich said. “You have to be able to go two or three layers deep to find them.”
At 3i, a global approach to investing is an important differentiator given that many middle market firms’ efforts are U.S.-centered.
That gives 3i a competitive edge when pursuing any business with heavy international complexity, which might include a desire to grow through M&A outside the U.S., Olinick said.
A sourcing model reliant on opportunities outside a regular process has been a key component of Huron Capital Partners’ playbook, Gretchen Perkins, a partner at the Detroit firm, said.
Huron’s deal flow includes referrals from attorney relationships, tapping the independent-sponsor market, and turning to retained buy-side advisers to find add-on opportunities.
“It’s a really good environment for add-ons because sellers are really willing to come to market,” Perkins said.
At the same time, Perkins said, large corporations have turned up the dial on M&A as a means to achieve growth.
“Strategics have become much more aggressive and are really paying up for things in the last handful of months,” Perkins said.
“They have been sitting on lots and lots of cash … and they’re putting it to use now because they can.”
The new sourcing playbook for PE is also evolving in other ways.
Besides an emphasis on operating partners, Jefferies’s Greenip said, PE firms are increasingly using data analytics to help identify investment opportunities and, once an investment is made, to help with underlying fundamentals of their portfolio companies’ businesses.
Another theme today is the evolution of SPACs, or special-purpose acquisition companies.
“In fact, our firm has hired a dedicated SPAC team in response to surging interest from equity investors and financial sponsors,” said Greenip’s colleague, Robert Fullerton, global head of leveraged-finance investment banking at Jefferies.
“We expect SPAC issuance to accelerate, especially as the asset class continues to perform for investors,” Greenip said.
Smaller sponsors may be interested in the strategy as “they could be more interested in diversifying their capital sourcing — and this is clearly a way to access a broader pool of capital,” he said.