PE Funds Research Articles

Choosing Battles You can win: How PE Fund Managers Address Tensions When Integrating ESG

Choosing Battles You can win: How PE Fund Managers Address Tensions When Integrating ESG

Determining Drivers of Private Equity Return with Computational Approaches

AbstractPrivate equity (PE) represents the acquisition of stakes in non-listed companies, often long-term, with the objective of improving the performance and value of the company to obtain significant benefits at time of disinvestment. PE has gained particular importance in the global financial system for delivering superior risk-adjusted returns. Knowing the PE return drivers has been of great interest among researchers and academics, and some studies have developed statistical models to determine PE return drivers. Still, the explanatory capacity of these models has certain limitations related to their precision levels and exclusive focus on groups of countries located in Europe and the EE.UU. Therefore, in the current literature, new models of analysis of the PE return drivers are demanded to provide a better fit in worldwide scenarios. This study contributes to the accuracy of the models that identify the PE return drivers using computational methods and a sample of 1606 PE funds with a geographical focus on the world’s five regions. The results have provided a unique set of PE return drivers with a precision level above 86%. The conclusions obtained present important theoretical and practical implications, expanding knowledge about PE and financial forecasting from a global perspective.

Understanding Private Equity Funds: A Guide to Private Equity Research in Accounting

ABSTRACT Private equity (PE) funds are increasingly important to the economy and now serve as the primary vehicle for raising new capital. However, a limited understanding of the unique PE fund setting among accounting academics inhibits accounting research in this area. In this paper, we first describe the PE fund setting and explain how fundamental differences between PE and previously studied settings make it difficult to infer PE fund behavior from research performed using other settings. We then discuss how PE funds provide researchers with the ability to explore fundamental questions related to agency costs, governance, compensation, disclosure, and fair value accounting. Finally, we provide guidance on PE data sources available for use in future research. Because of the volume of economic activity currently funneled through PE and the unique aspects of the PE setting, it is important for researchers to explore when, why, and how accounting matters for PE funds. Data Availability: Data used in this study are available from the public sources identified in the text. JEL Classifications: G1; G14; G30; M4; M41.

The Tradeoff Between Private Equity Sponsorship, Board Centrality, and Experience as Credible Signals for IPO Performance

ABSTRACTPrivate equity funds implement various management and governance practices in firms they endorse, signaling higher quality of sponsored IPOs (Initial Public Offer). However, the participation of such PE funds comes at a cost for newcomer firms, as they may lose both autonomy and future post-IPO earnings. If they do not choose to signal quality through PE funds, the IPO literature points to the validity of other mechanisms, such as the experience and centrality of the board of directors. We theorize and test the effect of the tradeoff between private equity sponsorship and board centrality and experience on IPO performance. We analyzed the effects of signaling on long-term performance through the one-year cumulative abnormal return in Brazilian IPOs issued between 2004 and 2013. Our results indicate that private equity sponsorship is the most effective signal, completely overtaking the relevance of board centrality and experience to explain IPO performance. However, these latter board characteristics significantly affected the performance of non-private equity-backed IPOs. Between PE-backed companies, there is a reverse effect of the board centrality on the IPO's performance and a substitution effect of the board's previous experience with IPO processes.

Spread-Based Direct Alpha (SBDA) as a Performance Measure for PE Funds

Spread-Based Direct Alpha (SBDA) as a Performance Measure for PE Funds

Varieties of funds and performance: the case of private equity

ABSTRACT Within the growing body of literature on private equity, there is intense controversy as to whether, and by how much, the industry really adds value. However, much of the diversity in results can be ascribed to a tendency to focus on a subset of private equity fund types of venture capital and buyout funds or combine very different fund types. This study identifies and explores variations in performance according to eleven different types of fund, providing a much more fine-grained picture than preceding studies. We evidence considerable heterogeneity in performance results between fund types, with funds typically associated with riskier areas of activity having divergent outcomes and generally underperforming compared to buyout funds. We also find that all eleven fund types outperform the stock market when evaluating PMEs. We explore why underperforming fund types continue to attract significant investment. We apply agency theory to help understand general partner behaviour in private equity partnerships and building on the literature on the economics of expectation and of systemic evolution to explain limited partner behaviour, draw out the implications for theory and practice. Highlights An analysis of the relationship between a much wider range of PE fund types than preceding studies, and performance. Explanatory application of agency, expectations, and evolutionary theories. We evidence considerable heterogeneity in the performance of different types of fund. Funds typically associated with riskier areas of activity generally underperform buyout funds. We explore possible explanations behind mediocre or superior returns for specific fund types and why levels of return for some exhibit much more diversity than others.

Do Alliance portfolios encourage or impede new business practice adoption? Theory and evidence from the private equity industry

AbstractResearch SummaryWe show that the existing alliance portfolio of a firm can impede the adoption of a new business practice. We analyze the private equity industry which features alliances in the form of deal syndication and has recently seen the rise of a novel investment practice: add‐on deals. Using algorithm‐supported induction, we first document robust empirical patterns using machine learning techniques, and then test the theory we construct to explain these patterns using standard econometric methods in a hold‐out sample. We find that when the capabilities required for the new business practice require new partners, existing alliance portfolio members who support current practices can impede access to these new partners (and hence the adoption of the new business practice) through capacity constraints and inter‐partner rivalry.Managerial SummaryAlliance partners play a valuable role in many industries, and particularly in the PE industry as syndication partners. While the benefits of working with such partners are well understood, we uncover a potential weakness that alliance portfolio managers should be aware of. If a new business practice relies substantially on a new type of alliance partner, the existing alliance portfolio may impede access to this partner, thus impeding the adoption of the new practice. For PE fund managers, in particular, this implies balancing their deal syndication strategy with the development of new relationships with corporate partners to adopt add‐on models to complement the traditional LBOs. We also show how to use machine learning techniques to uncover patterns of strategic interest in past transaction data.

Финансирование инноваций и суверенные фонды

Technology turned to be a virtual bedrock of the contemporary global economy. The prospects for successful overcoming of the multiple social, environmental, economic and geo-political strains that are challenging the future of the mankind mainly depend on the technological progress in all spheres of life. The development and large-scale introduction of qualitatively new, in many cases disruptive, technologies demand accumulation and efficient allocation of huge amounts of resources, primarily the financial ones. Since the global financial crisis of 2008–2009 sovereign wealth funds proved to be some of the most well-capitalized institutional investors and substantially increased their role in the international economic architecture. Currently, total disclosed assets under management (AUM) of 95 active state-run funds are estimated at about 9 Trillion US dollars, which presents almost 10% of the total worldwide AUM. Even more importantly, thanks to the structure of capital and statutory mandates, they can take a longer view on value creation and, thus, on operations’ planning as compared to venture funds, PE funds and other counterparts from the private sector. Far-reaching investment horizon is a feature that is critical and highly welcomed in such capital-demanding and volatile sphere as financing of innovations. According to available data, in recent years the leading sovereign wealth funds joined the global race in technologies and noticeably increased their investments in the technological sector, including transition to “green” economy, clean energy, digitalization of production, transportation and distribution, ICT-based services and business platforms. This trend can be traced since mid 2010s. Even in pandemic 2020 sovereign funds were most active in the technology sector (25% of all registered deals). The second and the third places were taken by services (including e-commerce infrastructure) and life sciences (vaccines): 18 and 17.6% respectively. This data is based on the analysis of 165 fresh annual deals worth 42 Billion US dollars. The sovereigns’ trend to get closer to the technological assets (instead of traditional equities and mortgage) is being accompanied by greater in-house expertise and skills, general sophistication of strategies and operational management. This is especially true in cases of direct investments and access to early-stage technology-focused ventures. The empirical evidence allows to expect that in a foreseeable future the sovereign wealth funds will be steadily increasing their roles in financing of global innovations.

Exploring the Market for Secondary PE Fund Stakes with Artificial Intelligence

Exploring the Market for Secondary PE Fund Stakes with Artificial Intelligence

Exporting by Private Equity‐Backed Portfolio Companies

AbstractPrivate equity (PE) funds typically invest in and acquire established companies (via buyout mechanisms) and implement value creation strategies that realize efficiency improvements and exploit entrepreneurial growth opportunities. This paper explores the relationships between PE backing of bought‐out companies and their post‐acquisition strategy to stimulate sales growth through exporting. Importantly, we explore the routes through which PE funds, as ‘active investors’, affect the acquired companies’ ability to enter and expand export markets. First, through providing access to financial resources, increasing capital and operational expenditure, to boost both efficiency and improve managerial processes; and second, by bringing expertise and relational capital via managerial change and board representation to their acquisitions. Using a panel dataset covering the period 1998–2013, involving 2.6 million company‐level observations of which around 10% are actively engaged in exporting, we find that PE‐backed firms are more likely to engage in exporting (export propensity) and be internationalized post‐buyout than a control sample and that the effect is larger than for listed companies. Moreover, in relation to export performance we find a positive export performance differential (export intensity) for PE‐backed buyouts.

Texas Private Equity Conference

The President of The University of Texas at Austin discusses UTIMCO's investment strategy with its Chief Investment Officer.As the administrator of a perpetual endowment for the University of Texas and Texas A&M, UTIMCO allocates a substantial part of its equity investments to longer‐term and illiquid assets such as private equity. At present, fully 40% of the 63% of the funds UTIMCO devotes to global equities, and thus 25% of its total portfolio, is allocated to private equity. What's more, UTIMCO's annualized ten‐year return on private equity has been 13.5%, as compared to its 9% return on public equities over the same period.Along with these high returns, UTIMCO's CIO takes great satisfaction in the large percentage of assets under management, now 10%, in the hands of its minority managers. At the same time, his greatest professed concern is the recent increases in money supply combined with near‐zero bond yields, and the resulting importance of positioning the portfolio for future inflation.Private equity has had a profound effect on financial markets and companies, including a reduction in the number of U.S. public companies to roughly half of what it was 15 years ago. Given the availability of PE and VC capital, companies stay private longer and, as a result, private investors capture more of the increase in company values. And PE funds are now said to have nearly $3 trillion in “dry powder” that, when levered, gives them about $6 trillion of buying power.The panelists in this discussion cited a number of major challenges for private equity that go beyond the current COVID epidemic, including: (1) deal pricing and selection; (2) the health of the leveraged loan market; and (3) the search for new and better exit opportunities. All agreed that deal pricing was a perennial challenge, and that PE firms must work to develop a special “edge” in an intensely competitive market, where some firms consider a thousand deals a year to close on just two or three.The founder of Benchmark Capital begins by mentioning his firm's almost exclusive focus on early‐stage ventures and preference for being “the first money in.” He also notes Benchmark's different ownership structure; perhaps unique among venture firms, it is an equal partnership in which all partners have “the same economics,” the new as well as the oldest.The main investment advice offered is that, with interest rates so low, and some public company stocks trading at 30 to 50 times revenue, investors should remain as liquid as possibleThe recent popularity of SPACs is viewed as a response by issuers to “a broken IPO system” whose main symptom is runaway IPO underpricing and wealthy bankers. Noting that the amount of first‐day underpricing of IPOs has risen from $2 billion in 2016 to $30 billion in 2020, Gurley predicts that direct IPO listings, or DLs, will become much more common in the future.As for the recent frenzy of retail trading and the rise of Robinhood, Gurley says of the new trading firm's CEO,He tells the world that he's democratizing investing, but I don't think this is about investing at all. I think he's gamifying speculation… and I strongly suspect that the success rate of retail investors in options is really crappy. It should also scare the Biden administration that a lot of the money in Robinhood accounts came from stimulus checks this summer.

Private Equity Exit Strategies and Profitability During the Global Pandemic: Evidence from Around the World

AbstractPrivate equity (PE) exit strategy is important for investors as a planned and effective exit strategy improves the chance of realizing higher profit. In this paper, we examine how PE exit strategies are being affected by the on‐going global pandemic. The current COVID‐19 pandemic has created unprecedented exogenous shocks to nearly every economy and it is important to see how this uncertainty affects economic activities such as the PE exit decision. Using 20 years of PE fund data from across 79 countries, we find that the current COVID‐19 global pandemic has significantly affected the PE exit decision and the effect is stronger than that of the recent financial crisis. Out of all the exit strategies, acquisition is the most popular, and COVID‐19 exerts a significant negative impact on the others. We also find that COVID‐19 has negatively affected deal values across all the exit strategies, limiting the profit potential for investors. Moreover, the paper provides evidence that PE investors tend to wait for a good time to exit rather than rushing to exit during an uncertain time such as this global pandemic. Our results are robust for various alternative econometric specifications.

The performance of majority MBOs: An investigation on European SMEs controlled by their managers

This article investigates the impact of a majority management buyout (majority MBO) on the evolution of growth, performance and the level of employment of European SMEs. The empirical study is based on an original sample of 178 majority MBOs in Europe over the 2000-2007 period that is the golden age of LBO in Europe. The results show opposite trends between targets companies in the UK and continental Europe. British targets exhibit higher performance and employment level unlike European companies for which the results are not statistically significant compared to the control sample. The results also indicate that divisional majority MBOs perform better than private-to-private acquisitions. However, the role of PE funds remains unclear to explain the post-buyout trends in terms of performance and employment.

LBO and VC Investments in Recent Crises

This article describes the impact of economic and financial crises on the investment behavior and cash flow allocation of leveraged buyout (LBO) and venture capital (VC) funds. It complements prior research on the performance of private equity investments throughout the financial crisis. The authors base their empirical analysis on 10,073 LBO and VC deals from 1999 until 2018, provided by Thomson Reuters Eikon, and analyze the resilience of investments in various industries regarding volatility, maximum drawdowns, and investment returns. The empirical results show that LBO and VC funds withdrew their capital from the most volatile industry sectors during both the dot-com crisis (2000–2002) and the financial crisis (2007–2008). The data analysis confirms that these funds reduced their overall exposure to the markets during crises by holding back capital and allocating their money to less- volatile and more-crisis-resilient industries, such as energy and power. These findings extend crisis-related research by explaining how LBO and VC funds’ dynamic investment behavior during crises can positively affect investment performance. <b>TOPICS:</b>Private equity, financial crises and financial market history, performance measurement <b>Key Findings</b> ▪ The article shows that fund managers in LBO and VC funds allocate their investors’ capital into counter-cyclical and crisis-proof sectors and withdraw money from volatile sectors during an economic crisis. ▪ The findings demonstrate that this active change in the fund managers’ investment behavior during the crises may explain why LBO and VC funds can outperform comparable public equity indices. ▪ The article further shows that the allocation of capital in LBO and VC funds during crises is comparable to investors’ allocation behavior in the public equity markets, which is especially important considering the outperformance of PE and VC funds over public equity measured by the public market equivalent.

Venture Capital Funds in Albania – Is it the Right Time to Show Up?

In the age of innovation and technology there is a lot attention put into start-up business ideas. This is no surprise considering the great and unbelievable changes that happened in the last 50 years, because of companies like: Microsoft, Apple, Google, Amazon, Facebook (just to mention a few), all of which started as “garage” start-ups. What made it possible for these start-ups to make it though was not because they started small out of garages, but because they were able to find financing from Venture Capital and Private Equity funds. Private Equity capital and specially Venture Capital funds are a crucial part of the start-up ecosystem as they specialise in providing financing to start-up companies and small businesses that are believed to have long-term growth potential and thus their presence in the economy promotes entrepreneurship, improves borrowing and also can strengthen the capital market. Even though there have been some PE initiatives in Albania, for the time being, there are no established PE or VC funds. However, with recent years attempts to establish a functional capital market and with the prospective changes made to the legal framework, regarding the regulation and support for the innovative start-ups, etc. may be the time is right for us to witness the birth of Private Equity/Venture Capital Funds.

Venture Capital and Private Equity Funds as Source of Financing Enterprises in Poland

Summary Subject and purpose of work: The main issue of the work is to present the essence of venture capital, i.e. Venture Capital funds and Private Equity funds. The aim of the article is to indicate the size of the share and the role of funds in financing enterprises located in Poland. The time horizon of the presented data covers the years 2012-2019. Materials and methods: The material for analysis is available statistical data, reports of commercial companies and other entities researching the size of the Venture Capital and Private Equity sector in Poland. For the purposes of the study, the literature on the subject was used as well as the data of: Narodowy Centrum Badań i Rozwoju, KPMG Sp. z o.o., the State Development Fund, the Startup Poland Foundation and the European Association of Venture Capital and Private Equity Investors. The method of analysis and criticism of the literature and the method of examining documents were used. Results: The research carried out in Poland makes it possible to assess the size of the implemented venture capital investments, i.e. VC and PE funds, over the years 2012-2019. The presented data indicate that the share of funds in financing Polish enterprises has a variable tendency. The percentage share of VC and PE investors in Europe in 2017-2018 is also variable. Conclusions: The Polish economic market is an attractive investment area in terms of cash allocation needs by venture capital funds. Increasing awareness of enterprise managers about the benefits of using these capitals to subsidize the activities of entrepreneurs allows them to discount VC and PE funds in innovative startups and in other processes, the implementation of which takes place in further phases of the company’s operations. The studies conducted so far cover the entire territory of Poland and are of an overview nature. The VC and PE funds, which are a new financial instrument, allow Polish enterprises to implement innovative projects.

Private Equity: Accomplishments and Challenges

The authors provide an overview of the main accomplishments of private equity since the emergence of leveraged buyouts in the 1980s, and of the challenges now facing the industry—challenges that have been encountered before during three major growth waves and two full boom‐and‐bust cycles. In so doing, the authors review a large and growing body of academic studies responding to questions like these: (1) How have PE buyout companies performed relative to their public counterparts? And to the extent there have been improvements in operating performance and productivity gains, how have such gains been achieved? What role have PE firms played in this process? (2) Especially in light of the large fees and profit shares paid to the PE firms, or GPs, and the significant “control” premiums over market paid to the selling companies, how have the returns to the LPs that provide the bulk of the funding for PE funds compared to the returns earned by the shareholders of comparable public companies? (3) Apart from the high fees earned by its GPs, why is PE so controversial? Beyond their effects on productivity and benefits for investors, what are the employment and other social effects of buyouts and PE? (4) What are the prospects for future PE returns to their LPs, especially in light of the volume of capital commitments and high purchase multiples that were being paid, at least until the onset of the COVID pandemic? And what role, if any, should PE activity be expected to play in the recovery from the pandemic?

Value Creation in Private Equity

We open up the black box of value creation in private equity with the help of confidential information on value creation plans and their execution. Plans are tailored to each portfolio company’s needs and circumstances, have become more hands-on, and vary with deal type, ownership, growth strategy, and geographic focus. Successful execution is subject to resource constraints, economies of specialization, and diminishing returns, and varies systematically across funds. Successful execution is a key driver of investor returns, especially in growth, buyout, and secondary deals. Company operations and profitability improve in ways consistent with successful execution, even beyond PE funds’ exit.

Value Creation in Private Equity

We open up the black box of value creation in private equity with the help of confidential information on value creation plans and their execution. Plans are tailored to each portfolio company's needs and circumstances, have become more hands-on, and vary with deal type, ownership, growth strategy, and geographic focus. Successful execution is subject to resource constraints, economies of specialization, and diminishing returns, and varies systematically across funds. Successful execution is a key driver of investor returns, especially in growth, buyout, and secondary deals. Company operations and profitability improve in ways consistent with successful execution, even beyond PE funds' exit.

Valuing Private Equity Strip by Strip

We propose a new valuation method for private equity investments. It first constructs a cash-flow replicating portfolio using cash-flows on various listed equity and fixed income instruments (strips). It then values the listed strips using a flexible asset pricing model that accurately captures the systematic risk in bonds of different maturities and a broad cross-section of equity factors. The method delivers a risk-adjusted profit on each PE investment and a time series for the expected return on each PE fund category. It avoids using realized discount rates and has good small-sample properties. We apply the method to the universe of PE funds. Under our more comprehensive risk model, we find negative risk-adjusted profits for the average fund in most PE categories. Substantial cross-sectional variation and persistence in performance suggests some funds outperform. Expected returns and risk-adjusted profit decline in the later part of the sample.