Wednesday, May 07, 2008

PE firms after the credit crisis - chic or brawny?

Whatever happened to the large $100 billion plus “club” deals that PE funds were talking about? With the credit markets drying up, the only constant is the high valuation expectation of sellers.

The consensus seems to be that rising cost of capital will reduce asset prices and the diminished role of securitized debt will influence PE buyouts. In this turmoil, there is also the dilemma that what constitutes “change in material terms” that might trigger a break-up fee (a charge on the seller if he walks away from the deal before it is closed). Could that be a 10% drop in earnings? How about reverse (a charge on the buyer) break-up fee? Well, those are some of the issues the industry (and some Courts) is now wrestling with.

So it calls for PE firms to build up in-house operating expertise besides fundraising skills. Return to fundamentals would mean facilitating exits through walking with portfolio firms during times of distress, handholding managements to weather market cycles and help consolidate market share and preserve earnings growth. Leveraged buyout / taking private financing will give way to operational financing that helps companies ride out short term liquidity imbalances.

When PE firms came to India, initially they were mostly IT/Telecom focused. Then the sector became over crowded and their focus blurred and soon they embraced sector agnosticism. Now it is the same PE firm that invests in IT, Real Estate, Aviation, Financial Services, Gems & Jewellery and Pharmaceuticals. My question - will they continue to look like lean, chic fund houses (operating from boutique hotels), with just one or two General Partners and a few analysts (sharing the fees and carry) or soon will they resemble a barrel chested, square jawed corporation from outside, sweating it out all the more?

Significantly more meaningful work than having to just spend hours shuffling management deck or reading research reports ;)

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