Conference Presentation, Panel
Mid-Market Private Equity (updated)
Milken InstituteLauren Leichtman, Brian Reynolds, Ted Virtue, Barry Volpert, Kneeland Youngblood, Adam Sokoloff
- Capital deployment by funds remains uncertain and likely to stay idle until there is significant U.S. economic growth, with dry powder waiting for opportunities in a flat GDP environment.
- New investment opportunities are constrained due to an ebullient market driving refinancing activity rather than fresh deals, resulting in fewer expected opportunities.
- Average hold periods have increased from four to five or six years over the current cycle and are now normalizing.
- A significant volume of assets from the 2005–2008 era is expected to enter the market for sale as Limited Partners (LPs) demand liquidity.
- Funds invested before and after the financial crisis are predicted to harvest simultaneously, potentially generating twice the number of exits typical in a normalized period.
- LPs are expected to consolidate investments into fewer, larger firms while increasing capital commitment per firm, which may squeeze out managers unable to execute exits.
- Fundraising sizes are anticipated to shrink significantly from approximately $10 billion to ranges of $3 billion, $750 million, or $500 million.
- Deal flow in the lower middle market is expected to continue cycling over the next couple of years within a robust market of about 36,000 U.S. companies under $1 billion.
- Mid-market funds are projected to see return improvements over the next few years if the economy strengthens and interest rates rise.
- Mega funds may continue targeting middle-market deals due to large transaction scarcity, potentially bidding down net Internal Rates of Return (IRRs).
- Mid-market General Partners (GPs) may leverage relationships to create unique opportunities and avoid aggressive bidding that erodes returns.
- Large-cap funds are expected to focus on high-growth companies and sectors featuring platform businesses for add-on acquisitions.
- Robust credit market conditions are unlikely to persist, with all-in rates of 5% to 6% for small and mid-cap deals expected to decrease over time.
- LPs are predicted to double down on existing managers by seeking fewer, larger commitments rather than maintaining a wide network of relationships.
- A winnowing of underperforming funds is expected to occur over the next couple of years.
- LP co-investments located within 30 miles of an LP's headquarters are identified as the highest-performing private equity category, contrasting with the lowest performance elsewhere.
- Interest rates are projected to rise in a couple of years, potentially reducing business cash flow and slowing corporate growth.
- In response to rising rates and reduced leverage, mid-market firms are expected to maintain debt-to-EBITDA leverage at approximately 4 to 4.5 times.
- The cessation of Federal Reserve quantitative easing is predicted to trigger inflation in commodities, impacting oil and other commodity prices.
- The likelihood of major tax reform affecting carried interest is predicted to be low, with expectations that such rules will remain unchanged.
- A market turnover is anticipated as a large volume of deals from 2005–2008 seeking exits coincides with a concurrent influx of capital.
- Mid-cap panels are expected to outperform large-cap panels over time by acquiring assets at lower multiples and utilizing less debt.
- Global opportunities are projected to expand as firms leverage their capabilities internationally, particularly in Asia where a generation of middle and lower middle-market deals has been absent.