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Private equity sees a high

PE activity bounced back with resilience against all odds in 2020. A Bain & Company report answers key questions in the field

Private equity (PE) activity ground to a sudden halt in the second quarter of 2020 as the reality of Covid-19 became apparent. But the industry quickly regained its footing and demonstrated an extreme resilience. Deal and exit value snapped back vigorously in the third quarter, ending the year eight per cent higher compared to 2019 levels. By all indications, PE weathered 2020's perfect storm without taking a hit to returns, as valuations remained very high. 

One number that stood out was the number of deals transacted by PE firms, which was down by 24 per cent (about 1,000 deals) in 2020 from recent levels meaning that total investment value was supported by larger deals. 2021 deal markets promise to be incredibly busy as investors seek to make up for lost time. Looking at January 2021 data, deal value is 184 per cent higher than the averages seen for that given month in the past five years. Funds will have now more than ever before to differentiate and make bold moves.

Special-purpose acquisition companies (SPACs) is one way that PE investors have used to tap into the evolving market opportunity. SPACs exploded back onto the financial scene in 2020, raising $83 billion in fresh capital, mostly in the US, more than six times the previous record set just a year earlier. As their surge looks set to continue into 2021, Bain & Company's research found that SPAC returns seem to be improving in aggregate, but individual performance is still highly variable. 

Environmental, social and corporate governance (ESG) investing continues to face scepticism. But leaders in the private equity industry are moving quickly to build sustainability and responsibility into how they invest and operate. 

"With deep stocks of capital and robust credit market, we believe 2021 will be very busy, and is already off a great start. However, soaring asset prices and uncertainty leave little room for error. Firms that will successfully chart a new path for growth are those that are capitalising on their strengths and creating a differentiated and repeatable model," said Johanne Dessard, Global Practice Vice President at Bain & Company.

Escape from the Abyss

Having rebounded impressively from a dismal second-quarter performance, the global industry generated $592 billion in buyout deal value in 2020. That was an 8 per cent jump from 2019's performance and 7 per cent higher than the five-year average of $555 billion. 

Amid heavy competition and a flood of investment capital buyout multiples continued to defy gravity in 2020, averaging 11.4 times earnings before interest taxes, depreciation and amortisation (EBITDA) in the US as of year-end and a record 12.6 times in Europe. As a measure of how hot the market was, around 70 per cent of US buyouts priced above 11 times EBITDA. 

Multiples rose across industries in 2020 but were especially buoyant in the sectors most immune to Covid-19 (such as payments) or those that benefited from the pandemic (like technology). What amounted to a flight to quality meant private equity targeted companies that could support more debt, and banks were happy to supply it. Despite the deep uncertainty surrounding the Covid-19 economy, debt multiples shot up in 2020, with almost 80 per cent of deals leveraged at more than six times EBITDA.

Unspent private capital overall, including that committed to venture, growth and infrastructure funds, has grown in stair-step fashion since 2013 to almost $3 trillion, with around a third of it attributed to buyout funds and SPACs.

Exit activity in 2020 followed the same pattern as investments. Both buyers and sellers hunkered down when the Covid-19 pandemic hit in the spring, and second-quarter activity went into a skid. Exit value picked up in the second half, as revived price multiples and the threat of a tax-law change in the US gave sellers ample incentive to put companies on the market?particularly big ones. The number of exits trailed 2019's total, but owing to an increase in deal size, global exit value hit $427 billion in 2020, on par with 2019 and in line with the five-year average. 

Once again, strategic buyers provided the largest exit channel. Sponsor-to-sponsor deals held up well, and initial public offerings increased by 121 per cent to $81 billion as public equity markets soared.

Global fund-raising of $989 billion was a decline from 2019's all-time record of $1.09 trillion. But it was still the third-highest total in history, and if one adds in the $83 billion raised for SPACs, it was the second highest. Buyout funds alone raised about $300 billion in 2020, or $340 billion if one includes SPAC capital aimed at buyout-type targets, estimated at $41 billion. 

Looking at 10-year annualised internal rate of return (IRR), funds have so far avoided the kind of damage suffered in the global financial crisis. While GPs exited fewer deals in 2020, those that did produce exits generated multiples on invested capital of about 2.3 times, slightly above the five-year average.

Tapping an Evolving Opportunity

Special-purpose acquisition companies (SPACs), are proving to be a speedier, more certain way to take a company public. However, the economics heavily benefit the sponsor and redeeming initial public offering (IPO) investors while significantly diluting non-redeeming public shareholders.                                          

SPACs exploded back onto the financial scene in 2020, raising a stunning $83 billion in fresh capital, more than six times the previous record set just a year earlier. The momentum carried over into 2021, with 91 SPACs raising another $25 billion in January alone.

SPACs could play a meaningful long-term role in the capital markets as companies seek alternatives to traditional IPOs. SPAC structures are evolving so that SPAC sponsors will have more exposure to long-term company performance, both through the initial at-risk