4 minute read 3 Feb. 2021
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How 2021 is unfolding for private equity

By Andres Saenz

EY Global Private Equity Leader

Trusted advisor to leading private equity professionals and their portfolio companies. Ardent student of consumer behavior. Marathoner. Family man.

4 minute read 3 Feb. 2021

PE will look to supercharge growth with the deep benches of operational expertise they’ve built over the last decade.

In brief
  • PE firms had anticipated a downturn for a number of years and prepared accordingly, so the degree to which firms have continue to thrive during the recession is no surprise.
  • 2020 showed us that strong bottom-line accountability can indeed coexist with attention to ESG.

Four years ago, one of the top business schools in the US was holding its annual private equity (PE) conference. At one point, one of the speakers, a senior executive at one of the largest PE funds in the world, asked the audience a question: “How many of you expect that we’ll see a recession within the next 6 to 12 months?” Give or take, 80% to 90% of the audience raised their hands. It seemed, at the time, a safe assumption. Equities were consistently setting record highs despite one of the longest bull runs in history, and M&A valuations were nearing and, in some cases, exceeding what was seen in the 2008 financial crisis. Of course, things played out much differently. Markets continued to soldier on with barely the whisper of a downturn.

We point this out for the purpose of noting that PE firms had been mindful of the potential for a recession for a number of years. While there was certainly no foreknowledge of the trigger — or of the dramatic impact that a pandemic-induced supply/demand/liquidity shock would have — firms had been prepping for a downturn for a number of years. As a result, the degree to which many firms have survived and indeed, in some cases, thrived during the recession is no surprise.

As 2021 dawns, there exists a great deal of optimism. As vaccines begin to roll out across the world, many consumer-facing businesses, for example, are looking forward to supplying a year’s worth of pent-up demand. At the same time, significant uncertainty remains about what the “final” wave of the pandemic might look like in the early months of the year. With that in mind, we put forth a few predictions based on our read of current dynamics,with the caveat that we remain in uncharted waters.

The tech train keeps rolling

  • What’s been interesting about the recovery in the second half of 2020 is the degree to which it’s been led by investments in the tech space. While PE investment in tech has been a powerful theme for a number of years — representing anywhere from one-quarter to one-third of PE investment activity — the pandemic has accelerated interest in the space. In the second half of this year, PE investment in tech companies represented roughly 40% of total deal value. 
  • 2021 should see a continuation of the trend, as firms invest at both ends of the size spectrum. At the larger end of the scale, they’ll continue to seek out opportunities in the SaaS and enterprise software spaces, often with more mature companies that value the opportunity to effect large-scale transformation away from the quarterly pressures of the public markets. At the smaller end of the scale, they’ll continue to invest in high-growth companies in emerging verticals such as Fintech, HealthTech and mobile. 
  • And across companies of all sizes, they’ll invest in those companies that are poised to benefit from the long-term behavioral changes we’re likely to see as a result of the pandemic. It is perhaps telling that one of the first large deals in Asia that occurred as the lockdowns there were lifted was an investment in the online education space.

Markets continued to soldier on with barely the whisper of a downturn.

Paying up for growth

  • One of the defining characteristics of the post-2008 global financial crisis period has been the steady march of high valuations. In a world that remains awash in liquidity, firms can continue to expect to pay substantial premiums for platform acquisitions. Indeed, according to S&P Leveraged Commentary and Data, LBO purchase multiples hit an all-time high in 2019, at 11.5 times EBITDA. Perhaps more significantly, 2020 saw little respite despite the uncertainty posed by the pandemic. While the number of deals was markedly lower, deals that did go through traded an average of 11.0x EBITDA. 
  • We expect the trend to continue in 2021, and that PE firms will take a number of steps to mitigate expensive investments. They’ll continue to look toward buy-and-build strategies in order to average down multiples when the thesis allows it. Most importantly, they’ll maintain their rotation into growth-oriented businesses, and look to supercharge that growth with the deep benches of operational expertise they’ve built over the last decade.

The year of ESG

  • It’s clear that the direction of travel for global commerce has been toward greater awareness of the environmental and social implications of economic activity, and PE has been no exception. The last several years have seen firms begin to report on their ESG initiatives in earnest. 
  • However, questions have remained. A focus on ESG is easy when times are good, but do companies still care when times get tough? Or do they revert to a singular focus on the bottom line? 
  • 2020 showed us that strong bottom-line accountability can indeed coexist with attention to a business’ broader responsibilities around its human, consumer and social impacts. PE firms ushered their portfolio companies through one of the worst crises in modern times. Concurrently, many of them made significant advancements with their ESG agendas, developing new protocols and elevating the role of the Sustainability Officer. 2021 will undoubtedly see firms continue these advancements. For some, it will mean embedding the foundational elements of ESG into the investment management and portfolio oversight process in order to manage risks and capitalize on opportunities. For others, it will involve comprehensive frameworks that cover the entire PE enterprise, wherein a broad range of externalities is identified, tracked, measured and reported to a firm’s key stakeholders.

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Summary

With more than US$750b in dry powder currently available to buyout funds, greater economic certainty, and strong tailwinds from the leveraged finance markets, firms will be actively looking to deploy capital in compelling opportunities. Amid increased competition, more than ever, they’ll need a compelling investment thesis and the ability to pull multiple value creation levers.

About this article

By Andres Saenz

EY Global Private Equity Leader

Trusted advisor to leading private equity professionals and their portfolio companies. Ardent student of consumer behavior. Marathoner. Family man.