Structural issues may force an uptick in exit activity

Hey everyone! Intrepid LP reporter Gregg Gethard here.

Fed chair Jerome Powell’s pronouncement this week that interest rates aren’t likely to come down any time soon was not great news for private equity.

Higher rates have meant more expensive debt for new deals and also have GPs stuck with assets they bought using cheaper debt not available today.

Still, sentiment from several sources is that exit markets, along with M&A activity, will open up in the second half of the year. This will be vital to get cash flowing back to LPs, which would then reignite the fundraising market.

HarbourVest Partners managing director Scott Voss believes more predictability will help with deal activity.

“I think that takes the interest rate variable off the table and deemphasizes it a little bit as managers think about deals and the cost of debt. There’s a lot more certainty than there was two years ago where we saw some capital markets freeze,” Voss said.

Exit activity has especially fallen off in the sponsor-to-sponsor channel because of the cost of debt. GPs that acquired companies at cheap debt levels – much like homeowners who locked in rates of 3 percent or less – are facing in many cases the decision to either continue to hold or accept a lower price from another GP who will have to refinance at a higher cost of debt.

Voss said managers will soon run into the “maturity wall” with the current terms of their financing coming to an end in the next few years, resulting in financing at higher costs. This will remove the disincentive to sell these companies.

“We’ll see full trades pick up velocity in the second half of this year and then will accelerate in 2025 and 2026,” Voss said.

Further, public markets have rebounded well beyond the famed Magnificent 7 stocks.

“That adds more conviction and certainty to what full market value is in these types of transactions,” Voss says.

But perhaps the most important factor is the level of uncalled capital raised during the fundraising bonanza of the first few years of the decade.

“There’s a ton of dry powder on the sidelines that has an expiration date. This capital needs to get deployed, so transactions will happen,” Voss said. For many firms, that capital will target their assets. And that will be a good thing across the industry, as LPs and GPs wait for the exit gates to swing open.

I’d love to hear from you. We can talk about private equity or pensions. Or the NBA Playoffs or Survivor. Really, I’m up to chat about anything! Hit me up on LinkedIn or drop me a line at Gregg.g@pei.group.