Surging inflation and rising interest rates over the past 18 months have exposed billionaires in the private equity sector to the risk of transitioning from hubris to not-quite-nemesis. These economic challenges have particularly impacted debt-backed, take-private buyouts—a core activity for private equity managers. Refinancing debt in portfolio companies at higher interest rates has proven challenging, leading some managers to explore risky forms of debt financing. Many private equity firms have faced difficulties as they grapple with overpaid acquisitions, resulting in a decline in exits from buyout companies via initial public offerings (IPOs). Institutional investors are concerned about mediocre future returns on leveraged buyouts (LBOs) and anticipate a surge in the default rate on portfolio companies.
A historical perspective traces the origins of the private equity phenomenon to the 1980s when corporate raiders pioneered leveraged buyouts. However, the landscape has changed dramatically, and the once-triumphant private equity sector is grappling with new challenges. The shift in circumstances follows decades of successful money-making, during which private equity evolved from corporate raiders to “active” investors and, eventually, a dignified asset class. Private equity, once perceived as an equity game, is now seen as a debt game driven by the cost of money.
Buyout funds, mirroring stock market returns, face challenges. Despite asserting low volatility, their smoothed returns seem overly optimistic compared to public markets. Harsher interest rates prompt pension fund trustees to contemplate discounts for illiquid assets. Private equity’s impact on global markets is evident, with a net loss of listed companies from 2005 to 2020. This poses challenges amid a surge in non-financial corporate debt. Major private equity managers lean towards lending over equity, questioning the role of public markets despite their contraction.
In navigating these challenges, organisations may benefit from engaging consultants skilled in analysing financial health and aiding in restructuring. Alumni Advisors can play an important role in assessing the impact of economic shifts, offering strategies for debt refinancing, and assisting in the overall restructuring of organisations within the private equity space. This external expertise can provide valuable insights and guidance to help navigate the complex financial landscape and enhance the resilience of portfolio companies.
