Early in 2011, Bill Conway, one of the three founders of private equity firm Carlyle and its chief investment officer, sat down to write his annual year-ahead memo to staff.
By Mr Conway’s typically cautious standards it was a strongly upbeat, confident memo. “Now is an excellent time for Carlyle to invest aggressively,” he wrote in capital letters. “The necessary ingredients for a healthy deal environment are in place.”
Mr Conway recalls: “Last January, we had a very positive view of both the global and the US economy. We looked at the performance of our companies as our leading indicators and saw that the level of economic activity was up.”
This year, Carlyle has put $8.2bn to work, but this was little more than half the $15bn it has returned to investors in its many funds.
Only a small part of the money Carlyle has invested was in headline-making multibillion-dollar deals that characterised the private equity industry until a few years ago. Instead, many of the investments were for minority stakes in smaller companies or for buying asset-management companies.
Such purchases are one reason that Carlyle has grown to rival Blackstone in size with its $150bn under management, although smaller investments typically generate lower fees than traditional large buy-outs.
But as KKR’s Henry Kravis is fond of saying, “any fool can buy a company – the time for congratulations is when you exit a company”. And nobody has done that this year – or any other year for that matter – as well as Carlyle.
Carlyle’s performance comes at a time when the big buy-out firms face significant challenges. For one thing, investors are questioning the ability of the biggest firms to put large sums to work profitably. That is partly because many of the large deals of the boom years, such as Energy Future Holdings (the former Texas utility TXU) and Harrah’s (now Caesar’s Entertainment), are in trouble.
Moreover, there have not been any deals with a price tag of more than $10bn since the financial crisis. “The traditional bank commitment market continues to be flighty and fickle,” noted lawyers at Wachtell, Lipton, Rosen and Katz in a memo to clients this week. “The windows open and close and hitting the market at precisely the right time is critical.”
In addition, investors have become more selective in their relationships and are demanding better terms. Big pension funds are reducing the number of funds in which they invest and are insisting on lower fees. KKR, for example, just entered into a deal with Texas Teachers to manage a huge chunk of money for that fund, but in exchange has cut the fees it charges.
The firm hopes to establish 10 similar alliances as the leverage of investors regarding the buy-out firms increases.
In his January letter to Carlyle staff, Mr Conway noted that “price discipline means knowing when you can pay more”. For Carlyle, it is hard to imagine another period as lucrative as 2011 in the coming years.