Private equity houses will face a “challenging investment environment” in the second half of the year, according to investment firm Partners Group.
In its twice-yearly Private Markets Navigator report, the firm blamed macroeconomic uncertainty and high asset valuations for making it harder to make a return on buying and selling businesses.
Partners Group's Steffen Meister said that the firm could deviate from its base of relying on steady growth caused by positive macroeconomic trends, as it predicts rising markets and a shift away from loose monetary policy.
“Identifying anchor assets with platform-building potential in above-average growth segments, and testing their resilience to adverse economic scenarios, is key to outperformance in this environment,” said Meister.
Private equity houses have been paying increasingly high multiples of earnings for their portfolio companies in recent years, as competition for assets heats up due to the huge amounts of money being poured into the sector by investors.
“It's been a seller's market for the last couple of years and a number of our private equity clients have been busy realising assets, often at multiples in excess of the multiples they paid,” said Johnny Colville at investment bank Houlihan Lokey.
“This can mask a multitude of sins, including a lack of growth in some cases and erosion of profitability. But if you can get the triple headline of growth, profit enhancement and exiting at a higher multiple then you're going to have some pretty happy investors.”
If asset valuations were to stall, as Partners Group seems to be predicting, such firms would see much less impressive returns when they sell companies.
Instead, Partners Group will focus on buying platform investments which it can build, in niche sub-sectors with defensive characteristics.
Colville points out that this is often a safer strategy for private equity houses, as the smaller businesses which the firm will purchase to bolt on to the platform will generally be valued at lower multiples.
This will in effect lower the multiple which the whole built-up asset was bought for, meaning the firm can afford to sell it at a lower multiple in the future if the markets slide.