Despite a slight increase in the number of speculative M&A stories involving financial sponsors as either buyers or sellers, private equity hasn’t really been in the game in either role for some time. Managing the portfolio, recession-proofing investments and driving performance for an eventual sale have been the order of the day.
As such, it’s a perfect time for the BVCA’s Performance Measurement Survey for 2008, which shows that private equity continues to outperform other asset classes over the long-term, especially as portfolios are now being valued on a mark-to-market basis.
Intriguingly, mid-market funds outperformed their larger buyout peers over certain periods. For funds launched since 1996, mid-market vehicles were the strongest performers over three years (28.8% IRR compared with 14.4% for large MBO funds) and five years (24.8% versus 20.9%) but not over 10 years, where large funds generated 16.8% IRRs compared with 14.6% for the mid-market.
In fact, mid-market figures were almost exactly the same as those in the same study last year. Again, mid-market IRRs for five years and 10 years were 24.8% and 14.6%, but the three-year returns dropped from 36.8% last year. Large MBOs were down across the board from 44% (three-year IRRs), 32.1% (five-years) and 23.9%, providing some evidence of the lack of exits since the onset of the credit crunch in summer 2007.
Small buyout funds also performed more strongly over shorter time-spans, generating 25.4% over three years, 18.7% over five years but just 11.7% over 10 years. These funds were also among the few to be successful in 2008, generating 29.4% IRRs, compared with 4.8% for mid-market funds and minus 14.4% for large MBO vehicles.
The relevance of the single year time-frame is uncertain considering private equity’s general reliance on several-year holding periods before an exit, and was largely included due to the extent of the collapse of the financial markets in the past several months and its subsequent effect on private equity investments.
“We have previously shied away from looking at one-year returns as they are generally too volatile,” said Ashley Coups, private equity assurance leader at PricewaterhouseCoopers, which conducted the survey, analysing figures from the BVCA’s 458 UK-managed funds. “This year, we felt it was quite an important period in terms of what is going on and private equity has not been unaffected by that, so it was included,” he said.
Coups added that the BVCA and PwC had always stressed the importance of looking at longer-term performance, with 10-year IRRs a much more realistic basis for analysis. The power shift towards the mid-market, he said, was a function of those funds’ robustness and the larger funds’ vulnerability to significant drops in valuations.
Noting that the FTSE 100 had fallen in the year by 30% from a year earlier, Coups said the “large proportion of the fall off will come from quoted comparables, but there has also been a fall off in trading for some companies”.
Over a 10-year period, total UK private equity returns (including venture capital) were 15.4%, compared with total pension fund asset returns of 3.7% and 1.2% for the FTSE All-Share Index.
Despite the fall off in some of the figures, Coups reiterated private equity’s belief that out of recession come strong opportunities for attractive vintages.
“In previous challenging periods, such as 1991 to 1994 and 2001 to 2004, those vintages are getting strong returns now,” he said. “If private equity can make investments now and make them work, then 2009 and 2010 could prove an attractive period.”
Ten-year IRRs on fund vintages in 1992, 1993 and 1994 were 25.1%, 18.6% and 39.8% respectively, while five-year returns for the 2001 to 2004 period were 36.3%, 26.9%, 29.5% and 53.7%.
The top quartile funds will largely benefit from those figures, not least because they can boast a track record that long and can prove that not only can they survive downturns but profit from them. Ultimately, however, it will next year’s survey, or that of the year after that, that will prove private equity’s resilience or otherwise.