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Private equity firms under pressure to exit investments; deal-making poised to intensify in 2012 according to Bain & Company Global Private Equity report

Nearly $1 Trillion in "Dry Powder"--roughly half slated for buyouts--remains widely dispersed among PE firms of all sizes and types worldwide, fueling battle for deals
Middle East PE market seeing major competition among funds due to scarcity of attractive targets and the large amount of available dry powder of USD 5-9 billion

PE firms will propel deal-making forward in 2012 as they race to put vast sums of aging dry powder to work before investment periods expire, but face strong headwinds, says Bain & Company, the world's leading advisor to the private equity industry. According to the report, uncertainties in the economic outlook and volatile equity markets will make it difficult for buyers and sellers to agree on price. Bain finds that debt-market conditions were less favorable at the start of this year than in 2011. One major concern: whether the supply of debt will be able to keep pace with demand, even if deal-making picks up--though say the authors, it's likely that credit markets will remain accommodating as long as the hunt for yield in a low interest rate environment continues to draw investors in.

Jochen Duelli, a Director in the Dubai office responsible for the Private Equity/ Corporate M&A Practice Group said, "The Middle East PE market is currently in its infancy. At present, it consists mostly of growth capital, relatively small equity tickets invested in minority stakes of small and mid size companies and is largely opportunistic across sectors and geographies. Fund raising is still a major challenge as well as exits of existing assets. Due to the scarcity of attractive targets and the large amount of available dry powder of $ 5-9 Bn, competition among funds is huge. This issue is compounded by the mismatch of sellers and buyers price expectations. Many General Partners (GPs) have not yet completed a full investment cycle and thus may struggle in the next few years. A few, more powerful GPs will remain."

"Private equity firms (GPs) will feel pressure to unload assets in 2012," said Hugh MacArthur, head of Bain & Company's private equity consulting practice and lead author of the report. "They have been slow to return capital to investors (LPs) since the downturn, and the exit overhang has grown to nearly $2 trillion globally." Adding to the pressure to do deals is the fact that a sizable portion of the dry powder earmarked for buyouts--48 per cent of the total--is held in funds raised during the big 2007 and 2008 vintage years. "The clock is ticking loudly for these funds," said MacArthur. Unless that capital is invested by the end of 2013, GPs may need to release LPs from their commitments and forego the management fees and potential carry it could generate, according to the report.

Burning off the aging dry powder will likely result in too much capital chasing too few deals throughout 2012, as GPs that manage the older vintages compete with one another and with GPs of more recent vintage funds to close deals. Indeed, if buyout activity remains at the modest levels of 2010 and 2011, the dry powder from the 2007 and 2008 vintages alone could fuel the deal market for 1.8 years. That pressure will be even greater in Western Europe, where funds are sitting on an even larger proportion of dry powder nearing its "use by" date.

But do not look for exit activity to perk up in 2012, says Bain. Weakness persists across all exit channels, and many companies in PE fund portfolios are still not "ripe for sale," held at valuations below what GPs need to earn carry.

Fast-growing emerging markets continue to attract both LPs and GPs, but most will be challenged to meet their high expectations. LPs are captivated by robust emerging market growth and continue to pour money into these regions, but to-date, the long-awaited potential has failed to materialize to the extent investors had hoped, according to the report. The principal factor influencing an economy's ability to absorb PE capital is the number of larger-scale companies available for acquisition. With many emerging markets falling short on this dimension, dry powder will continue to pile up. From the perspective of PE investors specifically, Southeast Asia is attractive for many reasons. It is relatively well endowed with scale companies, particularly in Singapore, Malaysia and to a lesser extent, Indonesia. Unlike China and India, where PE funds have typically been able to take minority stakes in smaller companies or limit themselves to private investments in public equities, Southeast Asia has traditionally been a buyout market, offering GPs more opportunities to create value. "Bigger, as in the relative size of GDP, is not always better," said MacArthur.

Fund-raising is not poised for a recovery in 2012. The slower pace of exit activity is leaving liquidity-strapped LPs strained to meet capital calls for past commitments, and volatile equity markets are pressing them against their PE allocation ceilings. Meanwhile, an oversupply of funds seeking capital could force GPs to scale back lofty expectations or face being disappointed.

From a sector investment perspective, a consensus is emerging that the US real estate market has finally hit bottom, drawing GP attention to construction and building products. In this segment, timing and geography are critical. GPs are taking care to understand where in the building cycle the products made by the companies they are evaluating fit.

In the US healthcare space, GPs are scouting for opportunities in a sector that is being reshaped by recent legislation and efforts to rein in costs. Companies that offer practice management and information technology services are promising targets that are attracting PE scrutiny. PE funds are also looking to capitalize on the growing trend of retail clinics that are able to provide consumers quick, effective, high-quality care. The medical technology industry is also drawing investor interest in both the US and Europe, where investors are navigating shifting profit pools as manufacturers of mature medtech products face pricing pressures from budget-minded hospital purchasers and fast-growing new technologies emerge.

According to the report, the ingredients of "market beta"--strong GDP growth, expanding multiples and abundant leverage to power returns--are gone and they are not coming back any time soon. The focus of both GPs and LPs now needs to be on generating alpha to earn market-beating returns by boosting growth in their portfolio companies.

"Selecting the right fund manager is key for LPs," concluded MacArthur. "GPs that have managed a top-quartile fund have a better than six-in-ten probability that their successor fund will also be an above average-performer. Likewise, for a GP whose last fund ended up in the bottom quartile. Their next fund will be nearly 60 per cent as likely to underperform the industry average."

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About Bain & Company
Bain & Company is the management consulting firm that the world's business leaders come to when they want results. Bain advises clients on strategy, operations, technology, organization, private equity and mergers and acquisition, developing practical insights that clients act on and transferring skills that make change stick. The firm aligns its incentives with clients by linking its fees to their results. Bain clients have outperformed the stock market 4 to 1. Founded in 1973, Bain has 49 offices in 31 countries, and its deep expertise and client roster cross every industry and economic sector.

About Bain in the Middle East
Bain & Company's work in the Middle East spans multiple industries including Financial Services, Energy and Industrials, Public Sector, Telecommunications, Media & Technology, Consumer Goods & Retail, Private Equity and Sovereign Wealth Funds. Our clients are major listed companies, state-owned enterprises, government entities, financial investors and private or family-owned business. Our consultants have graduated from the best international and regional schools and bring extensive practical experience working in the region and beyond. We work seamlessly as part of the global network bringing the best of Bain's industry and functional expertise to our clients.

For more information visit: www.bain.com. Follow us on Twitter @BainMiddleEast.

For more information, or to obtain a copy of Bain & Company's "2012 Global Private Equity Report" please contact:
Caroline Detalle / Dana Jaber
Bain & Company
Telephone: +971 (0) 4 365 7382
Email: caroline.detalle@bain.com / dana.jaber@bain.com

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© Press Release 2012

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