Move To Go Public Shows Challenge Of Staying Private

The increasing likelihood that The Carlyle Group and Oaktree Capital Management will join the growing ranks of private equity firms going public is drawing into sharper focus the challenges that lie ahead for large firms that appear dedicated to staying private.

Historically, buyout shops have grown by raising successively larger funds. But the appetite among pensions, endowments and other investors for illiquid buyout funds has stagnated, forcing many firms to raise less capital than in previous funds. Cerberus Capital Management, for example, is reportedly planning to seek $4 billion for its next fund—$3.5 billion less than its previous fund.

For private firms to continue to compete and grow, sources told Buyouts they will have to demonstrate even better performance; develop new business lines, such as investing in debt; expand their reach overseas to tap new markets; and potentially consolidate.

“If you’re going to stick to your knitting, you’re going to have to be differentiated and particularly well-skilled, because you will be competing in your traditional space based on your exceptional returns,” said Colin Blaydon, director of the Center for Private Equity and Entrepreneurship at the Tuck School of Business at Dartmouth.

One source, a representative for a private firm with more than $10 billion under management, said she’d recently spoken with executives at two mid-market firms who, independently of each other, said merging with another firm might be an option for growth. However, unless the firms have nearly identical strategies and cultures that outsized egos don’t dominate, a merger is replete with risks, sources said. “And if they’re firms that are a bit challenged, there’s the danger that if you tie together two sinking stones, it doesn’t make them float,” Blaydon said.

Large, respected firms that have indicated they intend to stay private include Providence Equity Partners, the Rhode-Island based firm with $23 billion under management; Silver Lake, the Menlo Park, Calif.-based, technology-focused firm that manages more than $14 billion; TPG Capital, the Fort Worth, Texas-based firm managing $48 billion, which in April agreed to sell a minority stake in itself to two sovereign wealth funds; Warburg Pincus, a firm that traces its roots back 40 years and that has invested more than $35 billion; and Welsh Carson Anderson & Stowe, the New York-based firm focused on information services and health care with total capital of around $20 billion.

Less clear is the outlook for Bain Capital LLC, which manages approximately $65 billion across its buyout funds as well as affiliates involved in public equity investing, credit investing, venture capital, and “Absolute Return Capital,” an affiliate that manages assets in fixed income, equity, commodities and currency markets; and Hellman & Friedman LLC, a San Francisco-based buyout shop that has raised more than $25 billion since its founding in 1984. Through a spokesperson, Hellman & Friedman declined to comment, while a representative for Bain Capital did not respond by deadline to a request for comment.

Washington, D.C.-based Carlyle is interviewing banks to underwrite its initial public offering, expected to take place in the third quarter of this year, sister news service Reuters reported this month. Oaktree Capital, the Los Angeles-based firm that manages more than $80 billion, meanwhile, is reportedly planning on listing its shares on the New York Stock Exchange. The firms would join Apollo Global Management, The Blackstone Group and Kohlberg Kravis Roberts & Co. as firms that in recent years have gone public.

Though each situation is different, an IPO is generally seen as a way of creating an attractive currency for compensating talent and making acquisitions while providing steady cash flow to expand and start new businesses. Four sources for this story, however, including a banker, two buyout shop executives and Blaydon, said they don’t think the best private firms will lose talent to public shops.

Another major reason to go public is so founders can cash in on the wealth they’ve helped create over decades. Blackstone co-founder Peter Peterson, for example, became a billionaire after his firm’s IPO in 2007. Often, the next generation of executives can’t afford to buy the senior executives’ share of the general partnership, a banker told Buyouts. “You can’t go to the south of France and buy a villa with illiquid GP shares,” this banker said.

Succession is such a driver in firms going public that it was the first subject Warburg Pincus co-president Chip Kaye mentioned recently when asked if his firm feels pressure to go public. “It’s not clear why” the firm should go public, Kaye said on CNBC. “We went through our generational succession 10 years ago when Joe Landy and I became co-presidents succeeding Lionel Pincus and John Vogelstein.”

Similarly, Welsh Carson Anderson & Stowe, another firm with no plans to go public, transferred its leadership around 10 years ago from founders Pat Welsh, Russell Carson and Bruce Anderson to Co-Presidents Paul Queally and Anthony de Nicola. It’s unclear how the founders were compensated, but since then, the firm creates a new management company for each fund.

Each of the sources interviewed suggested private firms will always have their place. With private firms, the argument can be made that limited partners’ interests are more aligned with management than at public firms, which also have to cater to public investors. And while public firms can offer prospective recruits shares in their company, carry is nothing to sniff at.

“I think it’s a huge advantage to stay private,” said an executive at one firm staying private. “I’d rather offer carry and not be in the public eye.”