Riverside specializes in what you’ve referred to as “dinky deals.” What does it take to keep prospects in your pipeline?Kohl: Deal flow is the lifeblood of any private equity firm, even moreso at the small end of the middle market. You need to kiss that many more frogs to find your prince. We have 20 originators around the world whose sole job is to find these deals in their geography. Last year they found 4,000 such deals. The next step is to have a terrific process to find what deals—and it’s only a few—might be Riverside deals. While it sounds like a numbers game, it really isn’t. We have to focus quickly on deals that can be ours. It also requires patience. We hang around the rim and get a lot of rebounds. A lot of deals at the small end of the middle market bounce around a while. We’ve followed some deals literally for years.
Although credit markets seem to be thawing after a two-year freeze, there is still tremendous volatility in the market. How does that affect your work?Szigethy: Prior to the downturn in ’08, we were able to borrow 4.5x EBITDA all in, with 3.5 turns of senior debt and one turn of subordinated debt. And money was readily available. During the depth of the downturn in late ’08 and early ’09, credit was very difficult to find. Because of our presence in the market, we were able to get credit but it was one turn less. And instead of having a dozen bankers interested, there were only three or four. Today we’re not back to the peak, but we are back, in terms of good companies, to 4.25 turns of EBITDA all in. And the number of lenders, starting in January, has greatly increased, for companies that did well during the downturn.
What is the mindset of sellers these days?Kohl: As always, it’s fear and greed. They’re more worried about markets and volatility than ever before, so there’s certainly more emphasis on certainty of close. Taxes play a huge role in mindsets. They’re aware tax rates are changing. And because private equity became such a large player in M&A, firms are now significant owners of businesses. They are going to sell those companies. They are financially sophisticated, but they also are motivated to sell because they need to raise their next fund.
Do you feel pressure to make exits ahead of the tax increases?Szigethy: In the U.S., sellers are thinking about the capital gains rate going up, and they’re thinking maybe I need to sell now.
Kohl: We’re aware of the market cycle, but the decision to sell is principally a micro-decision about the right time to sell that company.
How is the fundraising market?Szigethy: Fundraising was virtually shut down for much of ’09. We’re back to 60 percent of the peak, maybe 50 percent. We expect it to get gradually better over the next three years, maybe never back to the peak, but the peak was very high.
Edited for clarity