Wednesday 2 December 2020 3:39 pm

Private equity gets creative as it sits on record dry powder pile

Private equity firms are having to get creative and look to new asset classes as they sit on record levels of dry powder. 

In the face of unprecedented market volatility GPs initially turned their attention to portfolio companies in the outbreak of the pandemic. But now fund managers are sitting on approximately $1.7 trillion of cash. 

A new report by Mergermarket and law firm Dechert reveals that 57 per cent of firms are looking to vary their asset class. While the pressure may ease somewhat on vaccine rollouts and markets stabilising, there is appetite for diversification and embracing different deal structures. 

One of the central attractions of diversifying is being able to invest at all levels of the capital structure. The asset classes with the highest priority are specialised or niche segments – 32 per cent – while 23 per cent are considering impact investing. 

There has been an influx of GPs moving into private lending, with the number of asset managers hitting a new high of 1,764 last year. 

Some 29 per cent of firms said they were motivated to push into adjacent asset classes to become a larger-scale firm while 28 per cent said higher returns was the main reason. 

Carve-outs on the rise

The pandemic is likely to trigger a significant rise in carve-out activity, with 60 per cent of respondents forecasting an increase targeted by their firm. After more than a decade of accumulating debt in a low-rate environment, corporate liabilities are at an all-time high. 

For businesses on the brink they could seek the divestment of non-core units to deleverge their balance sheets. 

“Conglomerates that are over-leveraged and have collateralized heavily against their assets have been looking at divesting their assets to delever as well as to conserve liquidity for existing assets. That’s happening more and more, particularly because of the COVID-19 situation,” said Singapore-based PE partner Siew Kam Boon. 

Additionally private equity firms can use carve-outs for their own assets by divesting units of their portfolio companies. 

This may help GPs bolster their cash reserves and Dechert predicts fund managers are likely to scrutinise new deals “more carefully for opportunities to streamline assets by selling off superfluous units in the target business.” 

Dechert’s research finds that as well as carve-outs and minority stakes, firms are now more likely to weigh up strategic alignments with distressed companies. 

Nearly all respondents are likely – and 54 per cent very likely – to consider partnerships with strategic buyers.