Economists and policy-makers may be at loggerheads — not just within but between themselves too — on whether or not the US and some European markets have entered a recession, but there is no denying the volatility of these markets in the present scenario. The aftermath of Brexit, trade tensions between China and the US, and the perpetual modern economic dynamics each contribute to the ongoing uncertainty.
What is also undeniable is the COVID-19 crisis and the economic damage being caused as a result. The downswing in demand has left an estimated 53 million jobs in the US as vulnerable i.e. subject to layoffs, furloughs, or pay and hour cuts. In just a few weeks, all assumptions about the economy are gone, and policymakers are looking to pump money into businesses to prevent shuttering or layoffs. There are also concerns for crisis management and response, finance and liquidity, operations and supply chain, strategy and brand, and tax and trade. The impact is not going away anytime soon!
It is but logical that US private equity firms will feel the impact. Given the unprecedented sweep of the crisis, there are still a number of unknowns about the effect of the demand shock on business activity and consumer behavior. Previous economic crises provide some hints, and those learnings could help predict how 🔗private equity professionals might need to handle deals, fundraising, exits, and returns.
The PE industry could also play a great role in changing economic prospects for the better. They could create value by taking stakes in companies and sectors currently not finding favor, guiding the management of portfolios, and helping the steady and sustained growth of businesses. They earn their massive returns only after complete recovery and are typically the ones to invest when others might hesitate in similar circumstances.
👉Effect on investments
Deals struck by US PE firms are likely to take a substantial hit, as in the previous crisis. They will need to focus on diagnosing challenges and stabilizing their portfolios. The huge drop in equity values has made sellers hesitant to part with their assets, and buyer and seller expectations will quickly mismatch given the extreme volatility and uncertainty in the market, also leading to disrupted transactions.
Lenders will also rework their risk assessment, upping their scrutiny during underwriting and reworking how much they lend and at what rate. There will be no more easy money, and nearly three-quarters of all 2019 deals were leveraged at more than six times EBIDTA. With these multiples compressing further, successful deals in the near term might require more equity from buyers.
👉Effect on exits
Sellers will choose to hold their assets for longer, in the wait for market recovery. The fall might not be as steep as in the 2008 crisis, though, given how the preceding years have seen strong deal-making and a number of unsold assets that would have been sold off soon enough in a normal market. PE professionals are unlikely to make exits if the price is not right, though market improvements could see them rebound quicker than in the previous crisis.
👉Effects on fundraising
Institutional investors have lived through past financial crises, and are unlikely to be unduly shaken by the current one. PE allocations have grown as public markets are unlikely to deliver the outsized returns this class is known for. Diversification has also taught limited partners (LPs) to diversify in a downturn and to stay well-positioned for a rebound when it comes. Fundraising thus is unlikely to fall as much as the 50% decline seen in 2008–09, though LPs will certainly become more choosy about where they deploy their funds.
👉Effects on returns
Short-term returns for 🔗US private equity firms are likely to fall, as general partners (GPs) could drop valuations steeply in one phase, foregoing quarterly cuts in valuations. Further effects will become apparent basis the duration of the lockdown and the nature of the recovery that follows. Company performance coming under pressure could affect pre-downturn high-value deals, though superior returns during and when coming out of the crisis could counter lower pre-crisis returns.
The upside? There is substantial dry powder in the system, and when coupled with highly-leveraged promoters, this could mean a great opportunity to make some excellent deals… if you move fast enough, that is. Opportunities abound across sectors with businesses that can fight through long-term uncertainties, economic, and social alike. Fresh credit requirements will mean several businesses will need to raise more equity, and thus growth in PE infusions is a given. The next six months could well see some excellent targets coming up and deals being struck by private equity professionals!
It is also a good time for US PE firms to encourage their portfolio companies to take a relook at their ‘first principles’ and go back to their missions, for a start. They must look to determine the capabilities they need to not just survive but thrive in the crisis. And there is possibly no better time to strengthen the USPs of a company than a crisis such as this.
Ultimately, this is a time to take a longer-term view. The crisis is here and will hopefully go in some time, but where will the business be then, or where you want it to be are important questions. These affect matters as diverse as business integrity, people empowerment, quality decision-making, or technological transformation.
This is also a good time to pick up a private equity certification from a recognized institution. A certification is a great way for a candidate to upskill for higher roles and to grow faster in a career, also demonstrating seriousness to employers about the role at hand.
The following are some top choices of private equity certifications:
👉Certified Private Equity Professional (CPEP): Offered by the Investment Certification Institute, this targets those starting or looking to advance their PE careers. Contents include structures of PE, details of leveraged buyouts, and measuring returns.
👉Chartered Private Equity Professional (CPEP™): Offered by the United States Private Equity Council (USPEC), CPEP™ elevates the knowledge and appeal of a candidate to the level sought by top PE and VC firms. Built on the rigorous USPEC IFIS™ body of knowledge, it ensures thoroughness of skills and readiness to achieve great results at work for their employers in PE.
👉Private Equity and Venture Capital: From Bocconi, this course analyzes PE and VC businesses, giving an understanding of how a firm is created and the support it can get from PEs or VCs.