By Chester Tang, Events Director of the King’s Commercial Awareness Society
In today’s rapidly evolving economic landscape, Private Equity (PE) has emerged as a dynamic force with the potential to reshape industries and fuel growth. Against the backdrop of the COVID-19 pandemic, PE firms have faced unprecedented challenges and unique opportunities. In this article, we invite you to explore the world of PE, evaluate its response to the pandemic, and analyse the strategies that are driving success in this sector.
Background
Wreaking havoc worldwide, the pandemic beginning in 2019 caused immense damage to supply chains worldwide, with lockdown measures implemented across nations to reduce the spread of the infectious virus.
Consequently, inflation increased rapidly in many countries with the supply shock accounting for 40 percent, according to research conducted by Julian Di Giovanni. US Federal Reserve policies followed in pursuit of the lockdown measures such as the Cares Act passed in March 2020, which was targeted to help worker incomes and businesses during the difficult period.
The implementation of such policies was not without backlash, with John Cochrane arguing that by choosing not to cut spending or increase taxes, the US government had to take money for such policies from increasing the national nominal debt. The increase in excessive government spending and debt, combined with the aggregate demand compared to the supply shock results in the high inflation rates that we see today.
During the pandemic
While most businesses proved to be struggling, with the hospitality and F&B industries being the obvious first to be impacted by the pandemic, PE firms were implementing various strategies during the bear market.
Some firms took a more aggressive approach during the pandemic, looking for opportunities to purchase companies that they have been eyeing pre-pandemic, and firms that will do well post-pandemic, with tech firms as a dominant focus.
However, for most PE firms, it has already been a proven struggle to find the capital to keep their existing portfolio companies afloat.
After the pandemic
Currently, although the pandemic has already ended, with lockdown measures practically no longer existent, remnant scars from the crisis still remain internationally. The US Federal Reserve to combat the continued high inflation, has advised central banks to continue to maintain high interest rates to lower consumer borrowing to encourage the decrease of aggregate demand. There has not yet been any indication of the loosening of such fiscal policies, with the OECD’s recommendations of maintaining such rates until the second half of 2024.
This has caused significant impacts in the PE space, such as Europe, with the number of deals in the first three months of this year dropping back to the lowest point during the pandemic in the second quarter of 2020.
The rise in the cost of incurring debt has made exiting much harder for PE firms, as fewer companies are willing to sponsor such deals.
To combat such challenging times, PE firms have begun implementing more defensive strategies to stay afloat.
Such an example is the use of NAV Loans (Net Asset Value Loans) to borrow against their funds to backstop their individual companies in their portfolio. A case study can be taken in the PE firm, Visa Equity Partners, and its raising of a $1bn NAV loan led by Goldman Sachs to pump money and restructure debts for Finastra, one of its prized software companies. Such loans have also proven useful for PE firms to pay out dividends to investors in their funds, including sovereign wealth funds and pensions.
Alternatively, larger asset managers such as Apollo have been switching up tactics, with their Private Credit practices now managing over $400bn, a much more significant amount compared to its Buyout counterpart of $100bn. A case study can be taken in their $500m euro loan to Air France. This as mentioned, is largely correlated throughout the industry with the volume of exits in PE firms down by 60%, while the Private Credit business has been much more beneficial in the era where interest rates are at a sky-high level.
It is clear that amidst such high-interest rates, it is a difficult period for PE firms to maintain a high deal volume, as well as to secure loans to keep portfolio companies afloat. During this time, where such rates are currently predicted to be maintained for the incoming future, we can look forward to more innovative solutions such as NAV loans and shifts of capital in the different asset classes in large alternative asset managers.
