5 minute read 31 Jul 2020
Businesswoman with suitcase leaving metro station

How PE firms can remain ‘exit ready’ amid changing equity stories

Authors
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.

Winna Brown

EY Americas Financial Accounting Advisory Services Private Equity Leader

Trusted advisor to fast-growing, transitional companies. Believes in what matters is who is with you for the ride. Family. Friends. Trusted Relationships.

Charles Honnywill

EY UK&I Sell and Separate Leader

Transaction Partner. Experienced in complexity and international issues. Passionate about giving back to the community. Ex-rugby coach; now focused on charitable work.

Contributors
5 minute read 31 Jul 2020

Despite the changing market environment, processes integral to value creation and exits remain intact.

Exits are a critical, and often overlooked component of the PE investment process. Successful exits reflect the effort invested in a GP’s value creation process and deal execution capabilities. In recent months, many processes have been put at the backburner as firms focused on the immediate needs of adapting their portfolio companies to a post-COVID-19 world, and in some cases, deploying capital into fresh opportunities.

As a result, PE exit activity unsurprisingly has seen steep declines in the first half of this year. Firms announced exits valued at US$123b, nearly 50% lower than the first half of 2019. PE-backed IPOs have remained muted on volatility in public equities – down 62% versus 1H2019, to US$7b. Similarly, exits via trade sales and secondaries saw declines of 50% versus 1H2019.

While we do not yet know when exit activity will resume in earnest, the window could reopen sooner than we think. Market sentiment post-crisis could turn positive more quickly than it did after the great financial crisis; already, there are signs that IPOs may be brought back to life within a few months. For PE firms with a pipeline of assets they were preparing to sell in the first part of this year, what should they be doing to prepare for exit in a post-COVID-19 world?

The good news is the process hasn’t changed at all; it’s the environment around it that has changed. That being said, because the environment is so different, PE firms need to re-examine the full range of assumptions around their exit-ready companies. Recent reports have emphasized how many investors were already foreseeing an economic downturn and were preparing to encounter macro headwinds while monetizing portfolios (albeit not as severe as what’s being experienced currently).

PE firms can take several steps to rethink their pipeline in the context of today’s events:

Review the portfolio and rethink your timeline

Firms need to conduct a comprehensive review of their portfolio and adjust expectations to align with the reality of today’s market. In some cases, reshuffling the pipeline and placing ahead of companies that were once further down the list may allow you to be opportunistic about companies that may have increased in value; in other cases, firms may need to postpone plans for companies that now need more time and resources to deliver full value.

To a degree, timing may in some cases be influenced by the age of the fund. There are funds in their early stage that are comfortable holding on to their investments while letting the storm pass. On the contrary, there will be funds that are nearing the end of their lifecycle and bound to either divest assets or transfer to a subsequent vehicle.

Rewrite the equity story

The market’s current uncertainties are leading to an increased dependency on data-driven decision making. Firms looking to exit assets need to rewrite their equity stories. Sellers need to conduct scenario planning to reassure buyers they’ve thought through all the potential angles, which can be summarized into a single probability-weighted forecast that provides a clear picture of what can happen with the business, and what levers buyers can pull.

To properly accomplish this, firms need to identify new informational needs, including those that are nonfinancial in nature. What informational gaps have developed as a result of COVID-19? How is management thinking about proforma results to isolate the impacts of the pandemic? Which parts of the forecast are COVID-19-related, versus those that were going to occur anyway? Sellers that can articulate a coherent narrative will give potential buyers more comfort to bid.

Rethink your buyer group

A key fallout of the current crisis is the rapid change in the traditional buyer mix. PE firms need to rerun their buyer screenings to identify those with both the appetite and firepower to pursue a deal. In some cases, older buyers will have dropped off the list. In other cases, new buyers may now make sense that didn’t a few months ago. Firms must create a bespoke series of equity stories for each. Moreover, firms should approach the process with creativity and flexibility – in some cases, that may mean partial sales, joint ventures or bringing in a credit fund to refinance the business rather than sell.

Rethink what it means to create and articulate value

Lastly, it’s now more important than ever to articulate the nonfinancial value that’s created in the course of an investment – the consumer, human and societal impacts of a company. Today, ensuring a company follows (inter)national initiatives and regulations with respect to its impact on the climate, labor regulations, safety concerns and other priorities is table stakes. Increasingly, buyers are looking for infrastructure that can help them identify, track, measure and report on a broad range of externalities. Being able to demonstrate actions taken to date, along with a path forward that helps buyers envision how the company can help address or mitigate global challenges and serve societal needs, can help them think more expansively about opportunities for creating value.

Summary

Effective value creation, a continual process of portfolio review, identifying the right buyer group, timing of exits and conveying the right equity story remain pivotal, with recalibrations required for today’s market environment.

About this article

Authors
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.

Winna Brown

EY Americas Financial Accounting Advisory Services Private Equity Leader

Trusted advisor to fast-growing, transitional companies. Believes in what matters is who is with you for the ride. Family. Friends. Trusted Relationships.

Charles Honnywill

EY UK&I Sell and Separate Leader

Transaction Partner. Experienced in complexity and international issues. Passionate about giving back to the community. Ex-rugby coach; now focused on charitable work.

Contributors