Recent research conducted by Preqin and LexisNexis has indicated that over two-thirds of buyout firms believe private equity deals are overpriced at present. While private equity buyout deal flow has increased over the past year, hitting record post-crisis highs, buyout firms feel it is very much a seller’s market at present.
Of global buyout firms recently interviewed by Preqin, 49% feel that the number of opportunities has increased over the past 12 months; however the vast majority (68%) believe that these opportunities are overpriced. This overpricing has been caused by the fact that funds of vintages 2007 and 2008 account for 22% and 28% respectively of the $391 billion in dry powder available to the private equity buyout industry. As most firms employ a five-year investment period, fund managers are under pressure to put this capital to work, increasing the contest for deals significantly and resulting in higher prices.
In spite of this phenomenon, 48% of buyout managers involved in the study revealed that they feel the overall outlook for deals is strong. Interestingly, over half of respondents believe that potential acquisitions are correctly leveraged at present, whereas 27% stated that over leverage is a problem in the current market – a dramatic turnaround from the immediate post-Lehman environment.
Ultimately, with the increased competition between financial institutions and private equity buyout firms for potential deals, there is an increasing significance for how managers source deals. Personal relationships are very important in such a market and unsurprisingly 32% of buyout firms that participated in the recent study revealed that they have frequently sourced deals through such associations and a further 46% have done so multiple times.
The results of the study suggest that the deals market is buoyant, but pressure to put capital to work is affecting pricing and the flow of potential new deals. Increased pricing has the potential to erode future returns, which will cause concern amongst institutional investors. In these competitive times, it is imperative that fund managers effectively source, manage and execute successful deals. Forming strong relationships with potential acquisitions at the earliest possible stage has become more important than ever in protecting fund IRRs.