Will Europe Show The Way On Returns?

Europe may be behind the United States in cleaning up from the financial crisis. But in matters of private equity it often seems to lead the way.

Publicly traded buyout shops? Europe has had those for well over a decade (3i Group went public in 1994). The back-ended distribution waterfalls that investors want U.S. firms to adopt? That’s old hat for European firms. And well before public criticism erupted over a certain extravagant buyout party, a German politician took private equity firms to task for acting like a “swarm of locusts.” So, will Europe show the way when it comes to industry returns?

It’s a good time to ask that question, given that Thomson Reuters (publisher of Buyouts) this month published its annual study of pan-European private equity, current through year-end, roughly a month after publishing its year-end performance figures for the U.S. private equity market. The European study is based on on a sample of 1,381 independent European buyout, mezzanine and venture capital funds, reflecting some €323 billion ($461 billion) in committed capital. The U.S. study is based on cash flows and returns for more than 1,967 buyout, mezzanine and venture capital funds with a combined capitalization of some $886 billion.

Starting with the 30,000-foot view, European buyout funds have the edge over their U.S. counterparts for most time horizons studied. The one-year horizon IRR for European buyout funds comes in at a robust 23.7 percent; -2.5 percent for the three-year period; 7.4 percent for five years; 9.1 percent for 10 years, and 12. 4 percent for 20 years. The comparable figures for U.S. buyout funds through year end: 18.7 percent (one-year); 1.1 percent (three-year); 4.5 percent (five years); 5.2 percent (10 years); and 9.3 percent for 20 years.

Interestingly, the much-maligned mega-firms, defined as buyout funds of $1 billion or more, take the performance prize over smaller firms over a 10-year time horizon in both Europe and the United States. However, in the United States (where Thomson Reuters presumably has sufficient data) smaller firms win out over the longer 20-year time frame. Over a 10-year horizon mega-firms in Europe have generated a 10.7 percent IRR, higher than the 7.5 percent IRR generated by large (€500 million to €1 billion) funds, the 7.8 percent IRR generated by mid-sized funds (€250 million to €500 million), and the 5.4 percent IRR generated by small funds (0 to €250 million).

Over a 10-year horizon in the United States, mega-firms have generated a 5.6 percent IRR ($1 billion-plus), large funds ($500 million to $1 billion) a 4.5 percent IRR, mid-sized funds a 4.7 percent IRR ($250 million to $500 million) and small funds (0 to $250 million) a 3.0 percent return. Over a 20-year time line the small funds take top spot with a 12.8 percent IRR, followed by large and mid-sized funds, tied at 11.5 percent, and mega-funds at 7.9 percent. The European report does not include 20-year figures broken out by fund size.

So the overall performance picture looks a little brighter right now in Europe than in the United States. U.S. firms have to hope that, in this respect at least, Europe reflects the future of the U.S. buyout market, rather than its past.