After a blockbuster 2021, overall private equity (PE) activity slowed down in the first half of 2022. Dealmaking was still strong, but fundraising declined as it faced deteriorating investor sentiment. Nevertheless, PE firms manage record levels of unspent cash, allowing them to not only support existing portfolio companies but also pursue new investment opportunities.

Fundraising under pressure  

Compared to last year’s record fundraising, PE funds have seen a sharp decline in H1 of 2022. The capital inflows into buyout funds, in particular, experienced the hardest hits, with numbers dropping from $284 billion to $138 billion year-on-year, per Bain’s report.¹ Funds are facing a more challenging fundraising environment, dominated by recession fears, monetary tightening and geopolitical uncertainties, all adversely affecting investors’ confidence. In addition, muted exit environment reduced proceeds, limiting investors’ ability to reroute profits back into PE funds.  

Outlook: With many investors adopting a “wait-and-see” approach, the current sentiment doesn’t bode well for PE fundraising in the second half of the year. But the fact that PE firms sit on record amounts of dry powder could lead to positive outcomes as managers deploy capital in a healthier valuation environment.

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Dealmaking still resilient

Although not as strong as last year, deal pipelines were still robust through the first half of the year, with $512 billion in buyout deals being made. According to Bain, this puts the industry on pace for the second-best year on record.² European dealmakers have been especially active. As of June 2022, they closed 4,053 deals, worth €463.5 billion, which is a 16.2 percent and 34.8 percent increase, respectively, PitchBook data shows.³

Outlook: PE deal activity is expected to slow down in the second half of the year as pipelines soften and deals that were negotiated before the market slump are closed. Moreover, dealmakers are now operating in an environment where debt is more expensive. “Facing losses on loans committed before the slowdown, banks are asking a lot more questions about a company’s exposure to inflation and rising rates, making it harder to close transactions,” say the authors of Bain’s report.⁴

With the IPO window closed, PE turns to secondary exits  

After a record-setting 2021 for PE-backed exits, 2022 has seen a major slowdown in both numbers and values of transactions. The global buyout-backed exit value reached $338 billion in the first six months of 2022, down 37 percent year-on-year.⁵ The window for IPOs, which were a massive driver of exit values, shut down almost completely. In Europe, PitchBook counted only eight PE-backed IPOs in the first half of the year, compared with a whopping 133 in the whole 2021. On the other hand, sponsor-to-sponsor exits, which involve PE funds on both sides of the transaction, showed more resilience as fund managers look to deploy unspent cash.⁶

Outlook: The market for IPOs is not expected to pick up substantially in the second half of the year, which means that more GPs will instead be eyeing a secondary sale to another sponsor or to a strategic buyer. Under the more challenging economic circumstances, GPs also tend to hold assets longer which could result in fewer distributions for Limited Partners (LPs) in the near future.

Zooming in: four things we learned about PE

Renewed uncertainty brings manager ability to the fore

‍The rise in volatility amid geopolitical uncertainty, soaring inflation and tightening financial conditions has had a notable impact on sentiment, a fact we can see very clearly in venture capital markets. According to KPMG, Q2 yielded 8,420 VC deals globally worth some $120 billion, continuing a slowdown since activity plateaued at the end of 2021. The simultaneous increase in dry powder points to a key change in behaviour from VC investors; hoarding cash and spending less.⁷

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This marked shift is likely to persist as long as the political and economic outlook remains uncertain. As the introduction to the report notes, “there will likely continue to be downward pressure on valuations, which could lead to decreasing levels of investment or leveraging alternative sources of financing.”

In turn, this will increase the focus on investment houses themselves, given that the performance gap between top- and bottom-quartile funds is often amplified. For limited partners, this means selecting the right fund managers is even more vital.

Retail suffers amid downturn

‍Most sectors have suffered with the abrupt turn in economic conditions, however retail can make a plausible claim to have taken the brunt of it, given pressures on supply chains, inflation and rising rates. A look at deal values in private markets reflects this. According to CBInsights’ State of Retail Tech report from the previous quarter, VC funding in the space cratered in Q2, almost halving from $23.2 billion to $13.2 billion.⁸

This has had a tangible effect on valuations in the space, particularly among mid- to late-stage businesses. Indeed, per the report, the valuation of late-stage retail tech startups fell by 24% on average quarter-on-quarter. Klarna’s journey is one of the more high-profile examples of this trend, with the payments business seeing its valuation slashed from $46 billion to $6.7 billion in a July funding round.

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Dry powder climbs as trouble brews

‍The GP-friendly fundraising environment saw money pour into private market vehicles over the last few years, as institutional investors looked to alternatives for returns and VCs invested this money into startups at record-breaking pace. Now, however, while the deals are slowing down, the capital overhang continues to grow; according to Bain analysis, dry powder in private capital markets stood at $3.6 trillion at the end of June, a new high.⁹

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This capital hoarding by GPs may provide several benefits for their existing portfolio. The excess cash at hand could be spent on stabilising companies’ balance sheets and operations during times of crisis, for example; one of the many reasons PE vintages often outperform public markets in volatile periods.

Deal in focus: Citrix, take privates and the appeal of delisting

Early on in Q2, shareholders of NASDAQ-listed enterprise software company Citrix approved a $16.5 billion deal to be acquired by activist fund Elliott Management and private equity firm Vista Equity Partners. While this may seem trivial in isolation, the agreement speaks to a broader trend in 2022; the amount being spent on PE acquisitions of publicly traded companies is becoming more eye-catching.

The value of these ‘take private’ buyouts has risen noticeably this year. Reuters’ analysis of Dealogic data showed that PE investors spent more than $226 billion on take-private deals in the first half of 2022, nearly 40% more than the same time last year. Examples in Q2 include Brookfield Partners’ agreement to buy automotive software maker CDK Global for around $6.4 billion.

At a macro level, this has been driven by the sharp fall in prices across public equity markets; the S&P 500, for example, had its worst first five months of the year in 50 years, according to T. Rowe Price analysis.¹⁰ This has afforded private investors the opportunity to snap up publicly traded businesses at relative discounts. Recently, this has included Blackstone’s acquisition of REIT PS Business Parks for $7.6 billion.

Grabbing a bargain isn’t the only motivator when it comes to software companies, however–although it is true that tech stocks have been disproportionately impacted by the recent downturn. In addition, the growth potential of these businesses can be very attractive, and something that PE firms feel they can unlock. For example, after months of being targeted by activist investors in the public markets, customer service software firm Zendesk agreed to be taken private by Permira and Hellman & Friedman in a $10.2 billion deal. This came less than a year after the company posted annual revenue growth of around 31% in 2021. As H&F partner Tarim Wasim said on the buyout’s announcement: “We see tremendous value in Zendesk’s platform and ability to grow at scale.”

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