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An Introduction to Private EquityPrivate Equity OBN – SBS MBAClass of 2012
What is Private Equity An asset class consisting of securities invested in operating companies with a view to generating value Investment typically lasts between 3-7 years depending on the investment focus of the company.
History and Development Originated in the US in the 40s with the founding of two Venture Capital firms American Research and Development Corporation (ARDC) and J.H. Whitney & Company. First Leveraged Buyout in 1955. LBO boom in the 80s with the emergence of KKR. Purchase of RJR Nabisco for $31.1 billion in 1989 standout LBO deal and subject of a book (Barbarians at the Gates)
Industry Structure Institutional Investors Fund of Funds DirectInvestment PE Fund PE Fund PE Fund PE Fund Operating Companies
Industry Players Fund of Funds (Limited Partners) ◦ Pool funds together on behalf of institutional investors to invest in PE funds Institutional Investors (Limited Partners) ◦ Insurance companies, Pension Funds, Family Offices seeking portfolio diversification General Partners ◦ Private Equity Fund Managers Comprehensive list of PE funds (including websites) can be found here http://www.venturechoice.com/vcdir.htm
Forms of Private Equity Leveraged Buyouts Growth / Expansion Capital Venture Capital Others ◦ Distressed Investments ◦ Management Buyouts
Leveraged Buyouts Companies are acquired using Financial Leverage Leverage can account for between 50% and 90% of total transaction cost Target companies usually mature with strong cash flows Cash flows generated by company used to pay down debt. Value generated when debt portion is paid down
Growth/Expansion Capital Company seeking expansion Typically profitable and able to generate cash, but not enough to finance expansion PE company approach is typically more hands on. Value is generated via ◦ Good entry price ◦ Operational/Margin improvements ◦ Growth due to expansion
Venture Capital Funds buy partial stake in an early stage company Early stage companies go through various rounds of funding – Stage A, B, C, D, E, etc. Funds typically exit their investment with IPO or buyout from subsequent funding rounds Funds usually go public after scaling Riskier than typical PE investment due to business failure High return potentials e.g Google, Microsoft, Facebook
Others Management Buyouts ◦ PE fund supports existing management to take over company ◦ Reliance on management to derive value ◦ Inherent alignment of interest is invaluable Distressed Investments ◦ Investment in equity or debt securities of financially stressed companies. ◦ Value is generated by turning around the business in addition to the typically undervalued entry price ◦ PE funds typically have relevant industry experience
Sources of Value Creation inPEFinancial Earnings ExternalEngineering Enhancement Factors• Cheap Debt • Change in • Rising stock• Varied sources management markets of funding • Disposal of • Mergers & unprofitable Acquisitions businesses • Cost cutting • New products
Exit Routes in PE Sale via equity markets Self liquidating instruments (redeemable preference shares, convertible debt) Put option (Sale of shares to management) Leveraged refinancing Secondary sale (To other PE firms)
Fund Economics Two major models ◦ GP/LP Model ◦ Bank Subsidiary Model Limited Partnerships usually last for 10 years* Successful PE firms (with GP/LP model) stay in business by raising a fund every 3 to 5 years* Management Fees and Carried Interest are primary sources of revenue* (Metrick Yasuda 2010)
Fund Economics Family KKR - Investor Base By Type* Office/HNI 3% Corporate Pension Financial 3%Institution 5% Endownment/ Foundation 5% PublicInsurance Pension/Sover 8% eign Wealth Funds 62% Fund of Funds 14%*Official KKR Data
Roles within PE firms*Job Title Yrs of Compensation Partner Comments Post MBA Track? expAssociate 0-1 Salary, Bonus, Sometimes (Carry)**Senior Associate 2+ Salary, Bonus, Yes (Carry)**VP 3+ Salary, Bonus, Yes CarryCFO/COO 5+ Salary, Bonus, Yes Often have a Carry CPAPartner 5+ Salary, Bonus, - CarryGeneral Partner 7+ Salary, Bonus, - Receive Carry significant carried interest * Note on Private Equity Careers – Tuck (2003) ** Carried interest – Share of profits
What roles do Associates playwithin the Investment Cycle? •Liaise with fundraising consultants Fund •Participate in road shows Raising •Help define Investment Strategy •Review submitted business plans Deal •Work on Pitch books for prospective dealsSourcing •Work with Due Diligence Consultants (Financial, Legal, Commercial, Technical) •Work on Transaction Documents (Investment Proposal, Financial Model, Offer Letters, Term Sheets, Legal Agreements) Deal •Make presentations to Investment CommitteeExecution •Manage disbursement process •Review weekly/monthly/quarterly performance reports •Work with management to redefine business and corporate strategy •Act as consultant where necessary. E.g 2 month on-site placement to help resolve working capital Deal management issuesMonitoring •Work with investment bankers to handle IPOs/Trade Sales/Rights Issues etc
Company Profiles – General PartnersName Website AUM*TPG http://tpg.com $48 billionKKR www.kkr.com $40 billionThe Carlyle http://www.carlyle.com $40 billionGroupBlackstone http://www.blackstone.c $36 billion omApollo www.agm.com $33 billionManagementBain Capital www.baincapital.com $29 billion* Assets under management - Wikipedia
Company Profiles – BankFundsName Website Investment FocusStandard http://www.standardcharte Emerging MarketsChartered red.com/careers/associat es/mba/oxford_said_busi ness_school/roles.htmlBarclays Capital http://www.bpe.com/ EuropeCitibank https://www.citicapitaladvi Europe/North sors.com/metalmarkOver America/Asia view.doHSBC http://www.hsbcnet.com/p North America / Middle i East
Additional Resources A note on Private Equity Careers http://mba.tuck.dartmouth.edu/pages/clubs/peclub/pdfs/Private_Equity_Care ers.pdf Private Equity as an Asset Class (The Wiley Finance Series) by Guy Fraser- Sampson http://www.amazon.co.uk/Private-Equity-Asset-Class- Finance/dp/0470661380/ref=sr_1_1?s=books&ie=UTF8&qid=1317551407&s r=1-1 Getting a Job in Private Equity: Behind the Scenes Insight into How Private Equity Funds Hire http://www.amazon.co.uk/Getting-Job-Private-Equity- Insight/dp/0470292628/ref=sr_1_6?s=books&ie=UTF8&qid=1317551407&sr =1-6 King of Capital: The Remarkable Rise, Fall, and Rise Again of Steve Schwarzman and Blackstone http://www.amazon.co.uk/King-Capital- Remarkable-Schwarzman- Blackstone/dp/0307452999/ref=sr_1_13?s=books&ie=UTF8&qid=131755169 6&sr=1-13 The British Private Equity and Venture Capital Association (BVCA) http://www.bvca.co.uk/PEVCExplained Emerging Markets Private Equity Association http://www.empea.net/
Additional Resources Barbarians At The Gate: The Fall of RJR Nabisco http://www.amazon.co.uk/Barbarians-At-Gate-Fall- Nabisco/dp/0099469154/ref=sr_1_2?s=books&ie=UTF8&qid=1317551848&s r=1-2 National Venture Capital Association http://www.nvca.org/ European Venture Capital Association http://www.evca.eu/default.aspx Guide to Private Equity Fund of Fund Managers http://www.privateequityonline.com/books/productimages/Media/000/165/752 /Sample-3.pdf