Overview of private equity industry and a high-level walk through a deal timeline.

1. Exploring Private Equity
October 29, 2013
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2. Introduction
Justin Shuman
– Education:
 Drexel University (B.S., Business Administration)
 Cornell University (M.B.A., Concentration in Investment Banking)
– Professional Experience:
 Woodlawn Partners – Senior Associate (Current)
 Harris Williams & Co. – Associate (2011 – 2013)
 DuPont Capital Management – Analyst (2007 – 2009)
Contact Information
E-mail: justin@woodlawnpartners.com
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3. PE Market Overview
PE Transaction
Recommended Reading
Private equity definition and overview of the industry
ecosystem including funds, investors, and portfolio
companies
Step-by-step walk through a hypothetical private equity
transaction including sourcing, valuation, and
confirmatory diligence topics
Recommended reference materials for learning more
about valuation, investment banking, and private equity
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4. Private Equity Value Chain
PE Market Overview
PE Transaction
Recommended Reading
Value Chain
 Investors commit capital to funds, fund-of-funds, or directly invest in
assets
 Funds deploy capital into assets on behalf of their investors (LPs or
Fund-of-Funds)
 Investments receive capital from LPs, Funds, and Fund-of-Funds
INVESTORS (“LPs”)
Pension Funds
Endowments
Foundations
Bank Holding Companies
High-Net-Worth Individuals
Insurance Companies
Investment Banks
Corporations
Other…
FUNDS
Invests in PE Funds
INVESTMENTS
PE Fund
Venture
Growth Equity
Fund of Funds
PE Fund
Buyouts
Mezzanine
PE Fund
Direct Investments
Special Situations
Real Assets
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5. A Short Vocabulary Lesson…
PE Market Overview
PE Transaction
Recommended Reading
Limited Partnership Agreement (“LPA”): the agreement that binds LPs to GPs and defines investment
strategy as well as all other rules for fund governance
Commitment: LP investment in a private equity fund
Capital Call: issued by the GP before the closing of a transaction. A capital call requests capital from LPs to
fund investment
Investment Period: normally 5 years from the fund being “turned on” (i.e. fees commencing and the first
capital call). After 5 years the GP may not draw down capital for new investments (“use it or lose it”)
Fund Life: usually 10 years
Fund Extension: highly negotiated but often 2 year increments to provide more time for the GP to manage
and exit existing investments in the fund.
Deal-by-Deal: economic calculation that determines carried interest on a deal-by-deal basis (easier to get to
the carry early)
Back-Ended: economic calculation that determines carried interest on a total fund basis (more difficult to get
to the carry early)
Hurdle Rate: the IRR hurdle which a GP must earn for LPs before it can begin to take 20% of the profits
IRR: internal rate of return is the discount rate that will bring a series of cash flows to an NPV of 0
Return on Invested Capital (“ROIC”): realized capital / invested capital
EBITDA Multiple: purchase price / EBITDA
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6. Fundraising Climate
PE Market Overview
PE Transaction
Recommended Reading
Significant amounts of private equity raised before the downturn created buying power
– Moving further into an investment period heightens pressure to invest
– Assuming a five-year investment horizon, $141 billion of private equity’s $348 billion of dry powder will need to
be invested over the next two to three years
Given the capital overhang, fundraising has proven challenging since 2008
– With 805 funds currently in the market, time from initiation to final close is proving longer than 2005 – 2008.
– Fundraising in 2012 fell to the lowest level seen in more than a decade, but the amount of capital raised increased 13%
from 2011 as larger funds found the most success
U.S. Private Equity Fundraising
Capital Overhang of U.S. PE Investors by Vintage Year
For the Years Ended December 31, 2007 – 2012
($ in billions)
300
$180
250
$481
$500
$433
$428
$373
$120
$400
$348
$100
$300
$80
$60
$200
$40
$100
Cumulative Overhang
Overhang by Year
$501
No. of Funds Raised
$160
$140
275
$600
229
228
221
200
150
118
113
2009
2010
128
110
100
50
$20
$0
2007
Cumulative Overhang
$500M - $1B
Source: Pitchbook.
2008
2009
Under $100M
$1B - $5B
2010
2011
$100M - $250M
$5B +
$0
2012
$250M - $500M
0
2005
2006
2007
2008
2011
2012
Source: Pitchbook.
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7. Private Equity Deal Activity
PE Market Overview
PE Transaction
Recommended Reading
172 exits took place in 4Q 2012, and the record 6,538 portfolio companies still held will drive
future activity
Private equity deal flow has been partially supplemented by the record $64.1 billion in dividend
recapitalizations in 2012, 58% higher than the previous record of $40.5 billion for the full year
2010
Total Private Equity Deal Flow
PE Deals by Industry
For the Years Ended December 31, 2011 – 2012
For the Quarters 1Q07– 4Q12
5%
$300
7%
900
800
6%
$250
8%
$200
600
500
$150
400
$100
300
Transaction Volume
9%
14%
33%
12%
13%
21%
13%
200
20%
$50
100
$0
0
1Q07
2Q07
3Q07
4Q07
1Q08
2Q08
3Q08
4Q08
1Q09
2Q09
3Q09
4Q09
1Q10
2Q10
3Q10
4Q10
1Q11
2Q11
3Q11
4Q11
1Q12
2Q12
3Q12
4Q12
Value of Deals
700
34%
4%
Total Capital Invested
Source: Pitchbook.
Deal Count
Business Products & Services
Consumer Products & Services
Healthcare
Information Technology
Financial Services
Energy
Materials and Resources
Source: Pitchbook.
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8. Private Equity Deal Size
PE Market Overview
PE Transaction
Recommended Reading
Middle market M&A transactions (<$500MM) accounted for 91% of private equity deal volume in
2012 as investors exhibited a preference toward smaller deals
49% of private equity capital was allocated to deals below $500 million in 2012, the second
highest total since 2005
Since credit market conditions are positive, the proportion of large deals should grow in 2013
Percentage of PE Transactions (Count) by Size
Percentage of PE Investment by Deal Size
For Years Ended Dec. 31, 2005 – 2012
For Years Ended Dec. 31, 2005 – 2012
100%
100%
90%
90%
80%
80%
70%
70%
60%
60%
50%
50%
40%
40%
30%
30%
20%
20%
10%
10%
0%
0%
2005
2006
0-24M
Source: Pitchbook.
2007
25M-99M
2008
100M-499M
2009
2010
500M-999M
2011
1B-2.5B
2012
2.5B+
2005
0-24M
2006
2007
25M-99M
2008
100M-499M
2009
2010
500M-999M
2011
1B-2.5B
2012
2.5B+
Source: Pitchbook.
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9. Deal Time-Line
PE Market Overview
PE Transaction
Recommended Reading
3
1
2
Source Lead
Speak
with
Owner
1 – 2 Weeks
4
Create
Valuation &
Returns
Model
1 Week
Conduct
Due
Indication
Negotiate
Diligence
of Interest Letter of Intent / Arrange
(“IOI”)
(“LOI”)
Financing
1 Week
2 - 4 Weeks
12 – 16 Weeks
Negotiate
Purchase
Agreement
Close
Transaction
1 – 2 Weeks
TRANSACTIONS TAKE ANYWHERE FROM 5 MONTHS TO 6 MONTHS OR MORE TO CLOSE
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10. Sourcing
1
PE Market Overview
PE Transaction
Recommended Reading
Traditional Intermediaries
– Investment Banks
– Business Brokers
Proprietary Sources
–
–
–
–
Accountants
Lawyers
Business Owners
Trade Associations
PROPRIETARY DEAL FLOW NORMALLY EQUALS BETTER/CHEAPER PURCHASE PRICES
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11. Valuation & Return Analysis
2
PE Market Overview
PE Transaction
Recommended Reading
DCF
– Use management’s assumptions (revenue growth, profit margins, etc.) to back
into what equity value is worth
LBO
– Similar to a DCF analysis, but a LBO shows an investor how much it can pay in
order to achieve its target equity return
– Can simulate return scenarios under various capital structures
Public Comparables
– Evaluate what EBITDA multiples similar businesses trade at in today’s market
Precedent Transactions
– Review what similar private businesses were acquired for within the last 12-24
months
TRIANGULATE IN ON FAIR PRICE THAT MEETS UNDERWRITING RETURN TARGETS
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12. Due Diligence
3
PE Market Overview
PE Transaction
Recommended Reading
Accounting
– Vet accounting practices and controls
– “Quality of earnings” report normally done to validate that
operating results are conservative
Business
– Evaluate product/service offering to validate financial model
– Analyze competitive landscape
– Review key employees
Environmental / Legal
– Scrutinize potential environmental and legal liabilities that could
impact a transaction
FIND AND UNDERSTAND EVERY RISK ASSOCIATED WITH THE ACQUISITION
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13. Transaction Financing
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Equity
– Fund: capital call draws down equity from LPs in pro-rata fashion at close
– Management: existing management usually “rolls” equity
– Co-investors: LPs that directly invest in the equity outside of the fund
Debt
– Senior Debt: secured by assets
– Subordinated Debt: unsecured, second lien on assets
– Mezzanine Debt: fills the gap between equity and debt
 14%-16%, PIK, warrants, no amortization (principal payments) until maturity
CAPITAL STRUCTURES & FINANCING FLEX DURING DILIGENCE AS RISK IS UNDERSTOOD
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14. PE Market Overview
PE Transaction
Recommended Reading
Books
 “Applied Mergers & Acquisitions” – Robert F. Bruner
 “Investment Banking: Valuation, Leverage Buyouts, and Mergers &
Acquisitions” – Joshua Rosenbaum and Joshua Pearl
 “Competition Demystified” – Bruce C. Greenwald & Judd Kahn
 “Understanding Michael Porter” – Joan Magretta
Websites
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www.prequin.com
www.pehub.com
www.pitchbook.com
www.thedeal.com
www.dealbook.com
www.altassets.com
www.bloggingbuyouts.com
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