Archive

Posts Tagged ‘Market Research’

The Great Liquidity Crunch – Private Equity Firms Re-invent Themselves

July 31, 2011 Leave a comment

By Vaibhav Gupta – ZENeSYS Certified Consultant, IIM Indore (2010-12 Batch). Vaibhav completed his B.Tech. in Mechanical Engineering from Delhi College of Engineering. Before his MBA, Vaibhav worked in Project Management for 4 years with Siemens Energy. Vaibhav intends to join the Management Consulting industry after his MBA.

Abstract: The liquidity crunch, tighter regulations and more control demanded by general partners is forcing the PE industry to re-invent itself.

The three key areas of transformation are:

  1.   More secondary deals – establishing the best valuations and finding the right buyers
  2.   Restructuring deals – creative ways of re-negotiating (past) unrealistic deals
  3.   Employing turnaround specialists – creating consultancy like capability for operational improvements

Over the last decade, uncharacteristic of what one might think, the private equity industry has gone through an economic cycle just like the stock market does – up and down. The up phase of the PE market started around 2003 and it continued to boom till 2007-2008 or just when the financial crisis kicked in.

During the up phase, which started after the telecom burst in 2002, the PE industry saw the largest leveraged buyout (LBOs) taking place in history. In the year 2006, PE firms had bought more than 650 US companies for a figure of $375 Million, which was around 18 times the transactions, closed in 2003 [ref 1] alone.

The LBO movement was fueled by decreasing interest rates, low lending standards and tight regulatory framework of owning a public enterprise (Sarbanes Oxley Act) [ref 2]. Consequently, it is one of the reasons why venture capitalists started relying on sales to strategic buyers for an exit.

The arrival of financial crisis in 2008 and the liquidity crunch brought about a quick halt to the LBO frenzy. The leveraged finance market almost stood still during and after the financial crisis. Not only that but as a result of this crisis, many deals were withdrawn or had to be re-negotiated [ref 3].

PE industry is measured with help of two metrics – fund raising and investment activities. The fund raising refers to the money, investors have committed to PE funds in a year. That fund raising activity had fallen to $150 Billion globally in 2009 from $450 Billion in 2008. Coincidentally, the 2009 figure is the lowest since 2004. The lack of debt in the following year of 2010 meant no hope of any speedy recovery.

The other metric, investment activity, which represents the financing of businesses, had fallen from $181 Billion globally in 2008 to just over $90 Billion in 2009. It 2010, it picked up to $110 Billion [ref 5]. This minor jump could possibly be attributed to increased investments in Small & Medium Enterprises and emerging markets such as Brazil, China and India.

Since PE funds acquire firms so that they could be sold at a profit later, life becomes difficult for them during an economic slowdown. Especially more so, where there is a liquidity crunch factor in addition. This was apparent from the total value of PE exit transactions. They fell from $151 Billion in 2008 to $81 Billion in 2009.

From here on to the next five years till 2016, over $800 Billion in loans extended on committed deals would become due or will have to be refinanced [ref 6]. This $800B is distributed almost equally between bank loans and high-yield bonds. To add further complication in hiving off these assets the US government has passed a bill that would require any PE firm which has more $150 Million in assets under management to register with SEC.

The implications are public disclosure of risks, business activities names of the personnel involved, assets owned, amount owed to each creditor, performance metrics, debt and defaults [ref 7].

According to estimates [ref 9], there is one trillion dollars worth of dry powder in PE funds globally. However, LPs are now demanding more control and requesting more information about their investments. The LPs want to keep track of the draw-down capital so that GPs don’t overdraw their limits [ref 8]. This in effect has created a liquidity crunch of sorts, within the PE community itself.

This puts PE funds in a tight spot. How should they service their existing debts and acquire new assets? The solution for servicing debts is to look for different options such as secondary markets, restructuring the deal or employ turn-around specialists to improve valuations. For acquiring new assets, they must look harder in the marketplace or find greener pastures in emerging markets.

Hence, turn-around specialists are in demand nowadays. PE firms are turning away from traditional leveraged deals and looking into investing in distressed companies. They feel it is better to restructure deals based on a change in strategy rather than to take money out and pursue matter in courts.

Turn-around is becoming more and more important as top lines (revenues) are shrinking. Even vendors have stopped extending favorable credit terms. Hence the success of any PE acquisition is down to operational excellence. This means improved management, optimizing expenditures, and rooting out inefficiencies such as overcapacity created in high growth years.

Interestingly, PE firms have identified a new gap in the market – companies, which do not have the means to hire expensive management consultants, are now finding this as a welcome opportunity to bring aboard high quality leadership.

Emerging markets such as Brazil, China and India are still attractive and PE firms need to find ways of entering them. China and India are the two fastest growing economies even during the recession and they need to develop infrastructure to support the high growth. Brazil is set to hold 2014 World Cup and 2016 Olympics.

With increasing pressure from the regulators, lack of liquidity, and tighter control demanded by general partners, future PE deals would need to be financed and executed with better insights and strategic planning. This means deeper research before deals are struck, awareness of best practices in target markets for operational excellence and market intelligence for finding the right buyers quickly and at the best price.

This article has been written as a part of a research project undertaken by one of our certified consultants. All information and content has been derived from secondary research and insights gained from recent projects at ZENeSYS for the PE industry. Credits have been provided in the references for text and data. ZENeSYS provides Market Research and Market Intelligence services to Private Equity Industry on a regular basis.

References:

  1. http://www.washingtonpost.com/wp-dyn/content/article/2007/03/14/AR2007031402177.html
  2. http://www.nytimes.com/2006/12/01/business/01regs.html
  3. http://www.economist.com/finance/displaystory.cfm?story_id=9566005
  4. http://www.thecityuk.com/media/179004/private%20equity%202010.pdf
  5. Wharton PE Report 2010
  6. http://www.freshfields.com/industries/reports/new_normal/assets/new_normal.pdf
  7. A Closer look at “Dodd-Frank Wall Street Reform and Consumer Protection act – Impact on Advisers to PE Funds” – a report by PwC May 2011
  8. http://blogs.wsj.com/privateequity/2011/06/10/limited-partners-talk-about-tightening-the-screws/
  9. http://www.cfo.com/article.cfm/12958163/c_12931795?f=TodayInFinance_Inside

A unique strategy by a Digital Media PE fund

February 12, 2011 Leave a comment

Buyout PE funds are at an all time high since year 2005. Despite this, the amount of “dry powder” or unallocated committed capital in the buyout funds is above 50% for the last three years according to AARMCORP who track and benchmark PE funds . Too much money chasing not-so-plenty a deals.

Furthermore, a peer set comparison of buyout funds shows that funds under 500M in assets who are investing in Technology and Communications buyouts have reported less than 10% IRR in the last three years. Despite these two negative indicators, there is unabated interest in technology buyout funds due to the promise of high returns in a relatively short term.

The good news is that it can still happen. Provided, there is a capable management team with the right connections, a smart deal identification mechanism, a creative makeover process, and secured exit planning. Enter Michael Connolly and David Silver of Atlas Digital Media Opportunity Fund who have what it takes to take on the challenge in delivering the heady 40% IRR limited partners expect.

Their highly successful deals EldercareLink, BuyerZone, Big City Doctors, Med Trak Alert and Atehena East, has given them a rich ecosystem of deal selection expertise. They have already identified two Internet properties with interested buyers as suitable target firms. Zane Tarrence, an adviser to the Fund, maintains a large database of potential buyers and together with the Managing Partners who have relationships with both strategic and financial buyers; for example, QuinStreet, Internet Brands, The Health Central Network, and BankRate among many others. In all cases their criteria is to seek out fragmented private companies at a discount to their multiple much higher than what other private or financial buyers would pay.

Unlike other funds, Atlas Digital will examine potential investments with an emphasis on who the potential buyers of the portfolio company will likely be prior to the Fund acquiring a controlling interest so there is no delays in cashing out in a timely manner. The partners management consulting backgrounds has been instrumental in creating valuable “reusable know-how” from re-restructuring Internet property deals such as ElderCare Link and Big City Doctors.

Applying tried and tested methodologies to fix Internet properties gives them an edge over others who are failing to derive efficiencies in their asset management operations. This is a significant edge for Atlas over other funds of similar size. Not only are they able to make more deals but they can also manage them with a lower operating cost.

There are hundreds of Internet businesses with a value just below the transaction size threshold of what strategic buyers are looking to buy, leaving an opportunity for Atlas Digital to identify, acquire, restructure and exit by leveraging their connections, methodologies and pre-appointed exit deals. Email mic@atlasdigitalpartners.com for more information.

Both, Atlas Digital Partners and AARMCORP are past clients of ZENeSYS.

Custom secondary research is affordable and better than primary research

January 26, 2011 Leave a comment

According to Wikipedia, as of March 2009, the indexable web contains at least 25.21 billion pages. Google claims there are one trillion unique URLs.

Can you imagine the amount of information nuggets in web pages, blog posts, news articles, documents, discussions and social network chatter out there? Secondary research can tap into all that gold mine of information and make businesses rethink that “reliable market research only comes from primary research”.

Here are the drawbacks of Primary Research

  1. Sample size is never big enough
  2. Cannot guarantee that respondents are giving an honest answer
  3. Respondents may not be qualified or have the right exposure to provide answers

For the same drawbacks here are the benefits of Secondary Research on the net

  1. Sample size is practically limitless
  2. Answers can be cross verified e.g. homes with two car garages in a suburban area is a more accurate indicator of mean income than asking 100 respondents from that area about their household income
  3. When Apple wanted to determine the market size for iPhone I don’t suppose they asked the phone users if they would buy one.

Economizing Data Analytics – Private Equity Portfolio Optimization Case Study

January 24, 2011 2 comments

This was sent out in a recent ZENeSYS newsletter…

Up until now sophisticated analysis of data was the privilege of large institutional fund managers. Now technology and the Internet has leveled the playing field. Here is a case study on how this is taking place.

ZENeSYS has teamed up with AARMCORP to develop a platform that investors in Private Equity funds can use. Our first solution will be an implementation of Mean Variance Optimization algorithm on a PE fund  portfolio.

Balancing Act

This algorithm will allow investors to test their portfolios for maximizing returns. By making a peer group comparison of each new potential investment, the algorithm will make a call on whether to go ahead with that investment or not.

The determination will be made on whether the new fund is in the top percentile of its peers in terms of historical returns and whether it diversifies the risk in the target portfolio or not.

Fund managers will realize that this is nothing but an implementation of Markowitz’s theory of portfolio optimization. However, to be able to find all peer groups, make a comparison and test the diversity is not a trivial task even after assuming that all the comparison data were available to start with!

So how can it be done in an affordable manner? The answer lies in a shared platform that can be accessed over the Internet to run this algorithm using AARMCORP’s exhaustive database of PE fund performance data.

The sheer scalability of this solution reduces the cost of running each test for the price of a standard analyst report.

Image credits to Pete Ellis

Sponor a Consulting Skills Competition to get your answer

January 20, 2011 Leave a comment

Do you have a market research question that you need answered?

Sponsor a consulting skills contest on our network of 600+ eager consulting fans from leading B-Schools and young professionals. The competition objective is to test the ability to use the tools and methods that is being taught at ZENeSYS. Expect around 20 to 25 contestants enter the competition. We will shortlist the 3 best entries and send it to the sponsor.

You the sponsor, decide the winner and enjoy the insights!

How to sponsor the competition

  1. In one sentence tell us what you are trying to accomplish.
  2. It needs to be a well defined goal or objective e.g.  you are a manufacturing firm looking to setup a new unit in a different country.
  3. Name 3 to 5 competitors in your industry
  4. Send an email to info@zenesys.org or see our website to see who we are

What to expect in the report

  1. A 25 to 30 page powerpoint report
  2. A set of best practice ideas for accomplishing the goal
  3. A set of opportunities and risks involved

How the Competition is Administered

  1. The assignment will be thrown open to more than 600 eager and motivated candidates.
  2. Approximately 20 to 30 candidates take up the challenge and work on the assignment.
  3. Out of the submissions, ZENeSYS will shortlist the three best submissions and send it to the sponsor
  4. Declare the winner (the best amongst the three)
  5. Sponsors keep all three reports

Cost of Sponsoring

  1. $ 500

Time to complete competition

  1. 4 weeks

Confidentiality

  1. Sponsoring organizations can choose to remain anonymous