Private Equity Boom During Pandemic?

What Is Private Equity?

Private equity involves investing into companies that aren’t publicly traded or controlling publicly traded companies with plans to make them private e.g. through delisting [1]. Often the companies invested in are underperforming and the private equity firm takes a large shareholding in hopes of making it more efficient and selling their stake for a profit.

Private equity activity on the up during pandemic:

The top 10 ranked private equity funds have announced acquisitions with >$40 billion in deals since March [2]. Below I have listed some notable deals that have taken place during the pandemic.

Coty – KKR

KKR injected $750 million in cosmetics maker Coty which will entitle them to a 60% stake in a strategic venture – a new beauty business spin-off with a $4.3 billion valuation. KKR are receiving an attractive 9% coupon for this investment. The coupon refers to the interest rate repayments KKR can expect to get from their investment. This deal has been termed as a ‘PIPE’ (private investment in public equity’) deal [3].

Italy’s Serie A – CVC Capital Partners + Advent International (bid)

CVC and Advent paired up to offer a €1.3 billion bid to acquire a 10% minority stake in the Italian first division football league. The deal would entitle CVC and Advent a stake in the new company managing Serie A’s broadcasting rights, international trademarks and commercial development. [4].

Showa Aircraft Industry – Bain Capital

Through the $817 million deal Bain Capital has acquired Showa, giving them access to the specialised materials business and the Harley – Davidson motorcycle style showroom. As Bain will be the full owner of Showa it will be delisted from the Tokyo Stock Exchange [5].

Schülke – EQT Partners

EQT Partners have acquired Air Liquide’s hand sanitiser and disinfectant business, the €900 million deal is meant to help increase Schülke production during the pandemic [6].

Nichii Gakkan – Bain capital

The $1 billion deal gives Bain a dominant stake in the Japanese nursing home and dog-grooming salon Nichii Gakkan. As a result of Bain’s acquisition Nichii Gakkan will be delisted from the Tokyo Stock Exchange [7].

Why the Surge?

There are three reasons behind the strong growth in the number of completed/initiated deals throughout the pandemic.

1.    Great value. John Connaughton (the co – managing partner at Bain Capital) has highlighted recession and crises as a time of productivity for private equity funds. Potentially strong businesses may have low valuations which creates opportunities for private equity investors. When reflecting on the 2008 crisis he said “One of the most productive periods for us was after the global financial crisis” [8].

2.    The ‘Coronavirus effect’. During the pandemic, demand for some products has increased, enabling companies to charge a premium which has yet to deter private equity investors. For example, Air Liquide are asking a higher sum than they were valued at earlier in the year for their hand sanitiser business. Through the increased demand for hand sanitisers and rubbing alcohols, Air Liquide have been able to justify a higher price due to an increase in forecasted sales [9]. Some firms are hesitant when utilising private equity as a source of capital raising as investors can be very hands-on, taking over the direction of the business in hopes of steering it towards profitability. The ability to charge premiums encourages distressed firms to think about private investments as a viable source of capital raising, arguably more than before the pandemic, as they can raise more capital than before through this methodology. Moreover, there is an increasing supply of distressed firms looking to raise capital.

3.    Opportunism. Due to varying lockdown measures impacting some deals, there is less competition from private equity firms when bidding for a company. For example, Nichii Gakkan, the medical services group, have been accused by the hedge fund Lim Advisors of not effectively finding counterbidders for their business. Bain Capital was able to take advantage of market turmoil to secure a good deal [10]. Such uncertainty can mean that private equity firms don’t need to worry about submitting a competitive bid because there isn’t enough competition to warrant doing so.

Sustainable Activity

Although private equity firms have maintained activity during the pandemic, the sustainability of this performance remains questionable. Deals will have to be resilient to weather coronavirus-related shocks. Attempts to mitigate COVID related risks have been made, a prime example is CVC Capital Partners’ re-evaluation of their Six Nations investment. CVC are looking to add a coronavirus clause to their planned £300 million investment, allowing them to withhold funding if the sport is further disrupted by the pandemic [11]. The Six Nations rugby games are yet to return, with games planned for later in the year.

Impact on the Leveraged Loan Market:

Private equity funds may seek funding for their investment from lenders in the form of leveraged finance. Leveraged finance has a high level of risk for the lender because of the likelihood of default as the investments the borrower makes greater. Leveraged loans are structured, arranged and administered by at least one commercial or investment bank [12]. However, during the pandemic, the leveraged loan market has seen a reduction in investment grade debt, with downgrades outnumbering upgrades 43 to 1 in June 2020. Over a third of US leveraged loans (the US leveraged loan market is valued at $1.2tn in total) are now rated at B – minus or lower; leaving it deep in the ‘junk’ category. The downgrade in leveraged loans is worrying for investors, as it seems an unattractive investment in such uncertain times. This is problematic for some private equity firms who use leveraged buyouts (LBOs) to invest in distressed firms as leveraged loans provide an critical source of funding [13]. Moreover, the private equity activity may not be as noteworthy as earlier discussed in this article due to the decrease in creditworthiness of leveraged loans

Conclusion

In conclusion, it seems that the pandemic has provided some opportunity for private equity firms to invest in distressed firms at a discounted rate due to lack of competition or unprecedented growth prospects in their investments. However, there is evidence to suggest that funding requirements for both Private Equity funds and the distressed firms may not be met due to the riskiness of leveraged loans. Regardless, the sustainability of these investments in the global pandemic is debatable, requiring private equity firms to make their investment agreements more resilient to further shocks from the virus.