Private equity firms are holding a record pile of cash which is more than double what it was five years ago. It has a record of $1.5 trillion in cash, as per Preqin’s recent data. This also implies that there is more competition for the same deals.
According to Fraser-Jenkins, the steady cash stream and the flood of money are driving entry prices and mean lower future returns.
Top private equity firms like Blackstone, Apollo, and KKR are raising larger funds for institutional investors. Blackstone’s most recent buyout fund this year topped $26 billion and is the largest in the U.S. history. Thousands of other firms have also raised money, Bain & Co.’s senior director Brenda Rainey. Private equity is still not a golden goose, says Nancy Davis, chief investment officer and founder of advisory firm, Quadratic Capital.
There exists competition among private equity firms itself as there are thousands of PE firms with billions of dollars. With so many funds participating, the firms find it harder to make deals. Also, the number of PE firms and dry powder continues to grow.
According to Martec Group, the global research firm finds that all private equity firms face the same set of challenges as they get prepared for their next investment. PE firms are compelled to make a quick decision. To solve this time frame problem, several firms are sending the business development team to search for companies that might fit their target. The winning company may not be the one with the highest bid, but with which they are comfortable.
At this crucial condition, let us understand the major challenges faced by the PE firms and the private equity professionals as a whole.
Revision in carried interest
Recently, there were a few revisions to the carried interest process. Further, there was an update to funding requirements and market conditions. The PE firms might have to put 40-60% equity down and financing through the bank. In the future, if any changes occur in regulations or competition, it may turn the industry upside down, says Rick Claar.
Offshore influence on the domestic market
Many of the lower or middle-market firms are acquiring clients that are playing well in the US or Canada alone. This may lead to trade issues or trade wars where certain companies might get benefit from protection and others might not be benefited (in case they have imported raw materials or parts). As a result, a particular industry might get better positioned.
Struggle for well-priced takeover
Buffet found little success while deploying Berkshire’s growing pile of cash. Though the company loosened its buyback policy two years ago, it could repurchase $4.1 billion shares only. 2019 was not the year for an elephant-sized acquisition. Buffet emphasizes patience with prices for good businesses for acquisitions.
A rise in demand for direct jobs
There is a significant increase in direct private equity jobs as fresh graduates and lateral recruits are joining the startup. More than 1.5 million jobs are created over the last decade. The graduates find difficult to gain a career in private equity. Likewise, the PE firms find it difficult to find potential candidates that suit their firm.
Gaining an advantage over competitors
Technology implementation is becoming a norm in almost all industries to derive customer insights. PE firms face challenges to conduct market research, customer interviewing, understand the position of the company regarding their customer base and competition. This kind of works calls for a thoughtful and sensitive method as the acquisition process is unknown to customers.
Many companies are missing the nuances of competitor intelligence, market conditions, and other factors while focusing on finance and management.
To summarize, a holistic approach to diligence and deep market research forms the right solution to overcome the prevailing challenges.