With the coronavirus pandemic continuing to rock the global economy, private equity exits have largely come to a halt since mid-March, according to a report from McKinsey & Co.
“The results of the pandemic have been startling,” it noted. “With a couple of exceptions—such as structured transactions and deals signed before the crisis—traditional PE exits have slowed significantly since mid-March of this year. Announced PE exits dropped almost 70 percent globally in May 2020 versus May 2019.”
Deal execution is difficult in the current economic context because of challenges conducting face-to-face due diligence or visits to production facilities, the report said. Valuations are also plagued with uncertainty.
Further, private equity firms, just like most other businesses, are suddenly preoccupied with dealing with more pressing health, human and business concerns, causing them to deprioritize potential exits, the report noted. As well, companies which seemed like attractive destinations for investment before the virus are revealing hidden weaknesses in the new recessionary environment.
Estimates about when exits might return to normal ranged widely among the private equity sponsors, investment bankers and chief executive officers that McKinsey & Co. interviewed from March to May. The majority guessed somewhere between six and 12 months, with fewer suggesting it would be more than 18.
In the current environment, sponsors are spending far more time on preparing for exits than they normally would, the report said, noting this was surprising. “Our 2019 survey of 30 US-based private equity firms found that, on average, mid- and senior-level deal professionals spend only three to five per cent of their time actively preparing for exit.”
The report outlined how private equity players can make the most of exit preparations amid the pandemic, such as identifying and investing in areas of growth and refocusing on value creation. “Creating more value is an integral part of the holding-period playbook, but the crisis is giving companies a chance to pursue such efforts more deeply than they did before.”
Another method is for sponsors to adopt more resilient business models. “As we mentioned, the recession has revealed material weaknesses in some business models, such as those of specialty retailers that mistakenly saw themselves as essential to consumers and of retailers that lack bargaining power with suppliers,” the report said. “After solving their immediate liquidity issues, forward-thinking sponsors are making the hard choices now to pivot to a stronger and more resilient business model.”
Companies can also take this opportunity to reinvigorate current strategies.”The impact of COVID-19 on companies will differ greatly, both in direction (a positive or negative impact on performance) and the degree of change (small or drastic) required to adapt to the next normal. Smart companies and their sponsors— probably in touch with their investment bankers— should invest the time to understand which strategies can help create value and then begin planning accordingly.”