Study: Too much capital, not enough deals

The industry’s accumulation of $1trn in dry powder, half of which is tied up in crisis-era vintages, is good news for sellers looking for big multiples from private equity buyers.

Even without the hits to its image and the shaky fundraising environment, private equity is poised for a tough 2012. 

The amount of capital managers have on hand for investments exceeds the availability of deals, which means too much capital in pursuit of too few deals, according to Bain & Company’s 2012 private equity report. 

Bain placed the amount of available dry powder at almost $1 trillion; 40 percent of which is dedicated to buyouts, with the remainder slotted for venture, real estate, distressed private equity, mezzanine and other strategies. Less than 25 percent of the investment capital is held by the industry’s 10 largest firms, meaning that competition for deals will be “broad and intense”. 

“Much of the dry powder, or much of that uninvested capital, sits in the 2007 or 2008 vintage funds – around 50 percent,” Bain’s head of North American private equity Bill Halloran told Private Equity International. “If you’re a seller, you’re in good shape. Especially where private equity is the obvious buyer.”

The concentration of capital in crisis-era vintages creates added pressure for firms scouting deals before the close of their funds’ investment periods. The sizable capital overhang had been a factor last year as well, and was one of the reasons deal multiples rose during 2011, Halloran added. 

Amplifying the unfavorable environment is firms’ growing need to unload assets acquired during the boom years leading up to the recession. While many firms managed to keep their holdings healthy through the downturn, few have had enough success to generate significant returns on the exits. 

More than 60 percent of fund assets are tied up in holdings valued at less than a 1.5x investment multiple – well short of what would be needed for firms to earn carry, according to the report.

“The distribution tempo for the 2006 and 2007 vintages has been even slower, with less than 10 percent of paid-in capital returned to LPs. At this pace, it could be quite awhile before cash-starved LPs begin to see any appreciable capital return,” the report said.

According to Halloran: “[Coupled with] the pressure to get some exits and distributions to your limited partners … This is going to be a very rough year for fundraising.”

The inability to deliver returns is bad news for firms hitting the marketing trail – particularly within an even more crowded fundraising environment. Private equity firms are attempting to raise 2.8 times above what they raised in 2011 globally, according to the report. 

However, it’s not all bad news. The ominous wall of refinancing that had threatened to demolish distressed companies with maturing loan agreements has shrunk substantially thanks to term amendments, new bond issuance and the paying down of debt, Halloran said. The successful turnarounds and exits of troubled companies with large debt loads also helped, he added. 

“It’s changed from a refinancing wall to a refinancing hill,” he said. “It’s still there, but it’s there for 2015 and 2016 … it’s smoothing it out over a few different years now.”