Contrary to suggestions by naysayers, the global private equity industry weathered the great recession rather stoically, and is now poised to see a marked increase in activity going forward, says David M. Rubenstein, cofounder and managing director of The Carlyle Group, one of the world’s largest private equity firms.
As the keynote speaker at the recent Private Equity Symposium, Rubenstein said the worst was over for the industry and that the future lay in the emerging markets.
“Emerging markets will become much more significant part of private equity, partly because this is where great growth is occurring in the global economy and partly because there is less private equity penetration there already,” he said, pointing out that Asian markets seem to be able to yield much higher returns than people thought it could a few years ago.
“We are witnessing that more and more money is going into the emerging markets,” he said. “Compared to the past few years, a much higher percentage of money went into emerging markets last year. Not only in terms of money being raised there, but also money being invested there.”
He cited a recent growth forecast that predict “for the first time, in the year 2014, the GDP of the emerging markets will surpass the GDP of the developed markets.”
It is a historic development. “As a result you are going to see much more activity in the emerging markets. I think China, India, and Brazil are probably the three most attractive markets.”
The symposium provided a forum for leading industry experts to discuss critical economic issues, as well as the challenges and opportunities posed by the current environment.
Part of the keynote presentation took the delegates through the history of private equity, which started as a small industry. Known at the time as “bootstrap industry”, it later reinvented itself as the “leveraged buyout” industry, before evolving into the “management buyout” industry. Finally, its identity settled on the private equity industry.
The industry peaked in 2007, with about a trillion dollars in assets globally.
“The reason for this growth was the fact that, over time, it promised returns in the multiples of what the market index would offer,” said Rubenstein. “The Canadian numbers show that the industry was following the global trend and deal value, activity, and fundraising were growing dramatically, peaking in 2006.”
There were concerns, however. These numbers didn’t do much to allay fears about the size of deals and funds, about the leverage from the deals and the price being paid for the deals. There were questions about likely returns from these deals. Issues such as taxation levels and losses incurred in privately backed companies further fanned the flames and brought unfavourable attention to private equity.
Worst fears and forecasts
Then came the great recession. “During the recession people tended to think the private equity industry was doing one of the worst things to the economy and to itself. Many people expected large employee lay-offs from portfolio companies and thought private equity firms would implode, says Rubenstein.
Experts at the time predicted the industry would shrink dramatically. The impact was expected to force large number of partners to abandon the asset class, and sell their fund commitments into the secondary market.
“There is no doubt private equity suffered during the recession. You can see the field activity went down, fundraising numbers went down quite dramatically — from the second quarter of 2007 to the fourth quarter of 2009, they declined by about 87%.” In the U.S., distributions plummeted to [between] $2 million and $3 billion each quarter, from a peak of $18 billion.”
Canada followed the same curve. “The amount of activity being done (in Canada) was incredibly lower than what was the case before. The same is true of fund raising,” he says.
What actually happened
Private equity firms fought the downturn by intensifying their focus on portfolio companies to ensure their survival. They cut operational costs, focused on areas of distress, scaled back their own fundraising, and drastically modified their business models, says Rubenstein.
“Their gravest concerns actually did not materialize. Private equity escaped the worst outcomes of the great recession. No major private equity firm went out of business. There were very few secondary sales. People didn’t like the prices so they didn’t sell,” says Rubenstein.