Private equity sees a revival in interest

Private investors are increasing their exposure to private equity funds following reports that many are set to invest billions of pounds of their “dry powder” within the next year.

Signs of a pick-up in deal-making in the sector has encouraged investors to take stakes in listed private-equity investment trusts that are trading at wide discounts to their net asset value (NAV), brokers say.

Simon Elliott, head of research at Winterflood Securities, expects the performance of these listed trusts to be rocky in the short term, but to improve in time. His recommendations include Hg Capital, a £270m fund with more than 20 per cent left in cash, which trades at a near 10 per cent discount to its NAV, and Electra Private Equity, a £767m vehicle set up in 1976, which trades at a discount of more than 30 per cent.

“If you take a longer-term view, the asset class is quite attractive,” Elliott says.

“But, by their very nature, private equity trusts are illiquid at the underlying level, so they may encounter short-term difficulties if we go into
a double-dip recession.”

Private equity deals are put together by firms that raise money from investors and lenders, to create funds with a duration of about 10 years. In the first three to four years, these funds are used to buy majority or minority stakes in high-growth companies, and to back management buy-outs.

The private-equity fund manager will then help the companies restructure and expand their businesses, with the aim of selling up or floating on the stock market at some point.

In the second quarter of this year, there were 411 private equity-backed buy-outs worldwide, with a total value of $43.3bn (£28.5bn) – making it the most active quarter since 2008, according to data provider Prequin. More deals now look likely. A survey of 100 private equity executives in the second quarter, carried out by accountants Grant Thornton, showed that about 80 per cent planned to complete a buy-out deal within the year, while 55 per cent were hoping to provide development capital in return for minority stakes.

By contrast, interest in distressed debt deals and secondary buy-outs is expected to be minimal. “Contrary to popular belief, very few private equity firms plan to snap up distressed assets,” says Mo Merali, head of private equity at Grant Thornton. “The majority are focusing on their core buy-out
business.”

A trio of sectors was identified: business support services, healthcare and consumer products. Private investors can gain exposure to certain deals through 30 private equity funds listed on the London Stock Exchange. These are either direct investment companies, which back a portfolio of companies selected by a single manager, or funds of funds investing in a portfolio of direct funds run by other managers.

Private equity funds aim to deliver their returns over the long term so, in the short-term, their results tend to be poor. In the past three years, shares in listed private equity investment trusts have fallen 47 per cent, on average. Over 15 years, however, they are up 304 per cent, says LPEQ, the trade group for private equity investment trusts.