How does the private equity M&A scene stand after the declining values of 2023?
Hank Johnson: 2023 was a hard year for private equity to put money to work. A positive from last year has been the increase in volume of take-private activity. We also saw an increase in carve-outs and corporate divestiture transactions, as well as greater interest in minority or co-control equity transactions – largely represented by well-performing businesses looking to preserve a capital structure.
Vito Sperduto: In 2023 the decline in global M&A volumes was roughly 17%. A lot of that was driven by a significant drop, approximately 25 to 30%, in financial sponsor-related M&A. I believe the average hold period for assets in private equity forms is roughly 3.3 years on average, compared to about 2.5 to 2.6 on average in the pre-pandemic period.
Johnson: There has not been the return of capital to limited partners (LPs) that supports all the funds that have been raised. Hold periods have trended longer; there is nearly $3 trillion of assets held by private equity. While there’s a lot of focus on the record levels of dry powder, we’re focused on the mountain of exits that need to happen, to restart the flywheel.
“Hold periods have trended longer; there is nearly $3 trillion of assets held by private equity.”
Hank Johnson, Co-Head of U.S. M&A
What are the prospects for the leveraged finance market in 2024?
John Cokinos: The ability for companies to pay debt and interest was significantly limited last year. In 2021, LBO loan volume was in excess of $140 billion; last year it was barely $40 billion.
Now I will say I haven’t felt this good about the leveraged finance market since the beginning of 2021. I think we’re finally seeing the green shoots that we needed for M&A and LBO activity to pick up.
Sperduto: We’re seeing large corporates build up cash and holding that cash to pay down leverage when it matures, and not necessarily putting it to work right now. In terms of some of the private equity-backed companies today, it’s probably very difficult doing new financings and having to reset rates to today’s levels, versus what they were able to achieve even two years ago.
Cokinos: A theme we did see a lot last year, which I think will continue until they think the cost of capital has improved, is sponsors adding to their portfolio companies via M&A, as opposed to de novo LBOs. We’re primed for that cost of capital to improve this year, and to see the unsecured market open up in high yield.
Sponsors bought businesses as best they could. Now, if the markets are getting more favorable, there’s going to be more depth for leverage, cost of capital is going to come down and they’re going to recapitalize those businesses with repricing as well as dividends going forward.
“I haven’t felt this good about the leveraged finance market since the beginning of 2021.”
John Cokinos, Global Head of Leveraged Finance and Capital Markets
Are there signs that the buyer-seller valuation gap is closing?
Johnson: Given the soft landing, improved inflation trends, and labor dynamics, companies are performing in many cases better than they had expected at the beginning of ’23. So we do think sellers are getting more comfortable, especially with an improved financing environment. That valuation gap is being bridged through the availability of incremental capital, and sellers understanding the market.
“Sellers are getting more comfortable – the valuation gap is being bridged.”
Hank Johnson, Co-Head of U.S. M&A
When will conditions be right for traditional sponsor-to-sponsor LBOs return to the market?
Johnson: For a lot of traditional private equity investments, with steady cashflow and growth, there needs to be certainty of financing. People are looking for an unsecured, subordinated debt market to replicate some of the existing financing structures. Sellers want to know there is a financing structure available to support their value expectations.
Cokinos: A zero-rate environment is one that, absent of a crisis, won’t likely exist again. But when the Fed starts to lower rates, that will allow the ability to put some more leverage on incrementally.
Johnson: Increasingly there are clients who are prepared to approach the market knowing that they could be a little uncomfortable, because when the market opens, you want to be early.
Sperduto: The private equity firms love the assets they have; in many cases, they’re trying to figure out ways to potentially extend their life. But at the same time, the investment committees are looking at these assets and saying, ‘You know what? We’re doing well – we should monetize sooner.’ So I think it’ll be an interesting push-and-pull to watch as we go into ’24.
