“Private equity and venture capital… was, for decades, only reserved to institutional investors, and very large family office investors… and retail investors now have access to this asset class,” said Alain Kinsch, independent director, during an online interview in late October 2023.
Retail investors rescuing asset under management
“Investors are looking for alternatives to invest their money because, over the last decades, they have not been very happy with the returns in the quoted markets.”
Competition has no doubt intensified in the private market business. “It’s also a question of, I would say, chicken and hunters, because there are more and more hunters. So, you need to broaden the [number] of chickens to a certain extent,” stated Kinsch.
The focus of the industry on retail investors is timely given the outflow pressure that the industry is confronted with. “Some management companies… are quoted on the stock exchange [so] they need to grow to support the stock price,” said Kinsch.
He thinks that modern technology “makes it a little bit easier nowadays to onboard [retail] investors,” which is probably a positive development because “retailing” was not seen as “in line with the private equity model.”
How to create value in the context of high Ebitda multiples?
Kinsch thinks that “PE and VC have always been good at… operational effectiveness.” He commented that changing the board, the management and reviewing suppliers and customers by trusted senior partners who have sector and geographical expertise “will more likely make a difference.” According to “a study at EY… the reason why PE and VC have consistently achieved above average returns is mainly… about operational value creation.”
He explained that the due diligence before investing into PE and VC is more extensive than for public investments. “It’s not just a buying decision, it’s 100 pages with conditions such as call options with all kinds of the anti-dilutive clauses, then you monitor, you influence, you control and then you sell.”
Have inflation and higher interest rates just started to bite the industry?
“I would say that [we are] definitely not at the end… it will, of course, now depend a little bit [on] how long the interest rates will stay high,” stated Kinsch. He thinks that the combination of loan rollovers and more financing needs may be challenging for some companies as banks will likely require more demanding provisions.
He believes that the most indebted companies and those with little cash flows--“typically in venture capital”--are the most at risk of going bust. The other ones that are “just not performing” or “kind of surviving” will be unable to invest to continue their expansion.
You can see across PE and VC portfolios, that valuations will continue to suffer
Some venture capital funds are already “in trouble” as reflected by few exits and company sales. Moreover, he noted that there were very few PE-and VC backed IPOs (15) in 2022. He explained that normally “26% of the net asset value of a PE and VC fund is redistributed every year. Now we are about 14%.” As it is disrupting the cash flow planning of pension funds, these investors will unlikely invest money into new funds.
Which sectors have performed best in 2023?
“If you take the full six months, from January to June… capital raised was $209bn. It was 26% less” than last year, stated Kinsch. He noted that funds focusing on technology, healthcare and financial services have enjoyed the highest inflows.
Valuations to bite further
“You can see across PE and VC portfolios, that valuations will continue to suffer,” said Kinsch. He is not so much concerned about the “excel valuation” as for the real performance that can be observed after 10 years at the exit. On the other hand, he suggested that entering a fund now may offer attractive returns should the economy recover.
Regulations in 2024
Kinsch does not expect new regulations in the coming year for the PE and VC sector. However, he does not rule out regulations affecting other sectors which will indirectly impact the PE and VC industry.
For instance, he noted that about €80bn found its way into the private credit because of heavy banking regulations in the US and in Europe. He would not be surprised to see some niches open up after fresh regulations hit other sectors.
Prognosis for 2024?
“For the moment, cash is king… So, I think that it’s really important now to get a good understanding of what is the trajectory to reach the cash breakeven […] and not taking too high bets” suggested Kinsch.
More specifically, Kinsch is concerned about companies relying heavily on energy to produce their goods. He thinks that the management of oil and gas prices has become “very difficult” on the back of high volatility. Additionally, the construction sector remains a difficult market due to high interest rates, labour shortages and continued supply disruptions.
A version of this interview will appear in Delano’s Winter 2024 edition, released on Thursday 22 November.
This article was published for the Delano Finance newsletter, the weekly source for financial news in Luxembourg. Subscribe using this link.