The use of structured external financing continues to rise, driven by greater awareness across private equity firms on the strategic use of these purpose-driven facilities, according to research by Investec Fund Finance.
Investec’s survey reveals that over three-quarters (78 per cent) of GPs use or would consider using a capital call facility.
The firm’s annual GP Trends report, now in its seventh year, captures the views of 76 senior private equity professionals in the UK, Europe, Australia, and US with approximately USD60.7 billion in total commitments under management.
Simon Hamilton, global head of Investec Fund Finance, says: “Private equity firms increasingly require innovative and purpose-driven facilities to support the fund’s operating costs and the growth of its portfolio companies. In addition to this, with a high level of dry powder in the market, and GPs chasing fewer deals, funds will need to ensure that they have the upmost flexibility during a competitive process, and that for every euro, dollar or pound drawn down, they are going to get an appropriate equity return for that money.”
An additional 45 per cent of respondents surveyed mentioned that they currently use or would consider using GP facilities, which could help finance GP and fund commitments, as well.
With around USD400 billion in unsold assets currently tied up in buyout funds, half of the GPs surveyed by Investec are taking a proactive approach to managing funds that have reached or are near their maturity dates.
Hamilton says: “With the holding periods for private equity-backed portfolio companies increasing in recent years, many managers have sought to restructure their funds and buy more time using bridging finance through to exit. As GPs begin to use debt in a more sophisticated and structured manner, this gives investors greater flexibility to invest in an underperforming company or finance bolt-on acquisitions – either generating or protecting value.”
The survey revealed that almost two-thirds (62 per cent) of GPs identified competition for assets as one of the biggest challenges they face in the next 12 months following a favourable fundraising environment over the past year.
Against an increasingly uncertain global outlook, only 9 per cent of respondents identified policy risk as a challenge in the next 12 months, despite forecasts for increased political risks with the EU referendum, US Presidential election, and upcoming European elections in 2017 all adding to market volatility and uncertainty.
Hamilton says: “Investec is increasingly working with clients to identify FX exposures within the fund, fund management team and even investor level, developing appropriate solutions to manage currency volatility and bring these exposures back to the firm’s functional currency, taking into account unclear exit timings and valuations.”
With pressure to commit larger amounts due to the ever-increasing fund sizes in the market, there is a growing gap to meet requirements for those whose capital is tied up in non-liquid assets. The high commitments from private equity funds have continued with 88 per cent of firms planning to commit over 1 per cent as a team to its next fund. Almost a quarter (24 per cent) of respondents believed they would need to commit over 3 per cent, while 14 per cent thought they would need to commit over 5 per cent as a team, a marginal increase on last year’s results.
Existing resources and reinvestment of carry from previous funds were identified by GPs as the most likely way that they would fund these requirements. An additional 18 per cent answered that they would use financing from the firm or senior partners, while 21 per cent said that they would use external financing, up from 14 per cent in 2015.
As talent retention and the ability to buy into a firm’s partnership remain significant issues for GPs, 76 per cent described succession planning as critical to the success of their firm, up from 68 per cent in 2015. The rise may be attributed to a number of high-profile incidents over the past year where a lack of strategy for a change in leadership became problematic for several private equity firms.
Despite the recognition from GPs that succession planning is critical to the success of their firm, only 54 per cent of respondents said that they have a plan in place, compared with 57 per cent last year. However, communication with LPs on succession planning has improved, 55 per cent of GPs said that their LPs are happy with their current succession plan, up 14 per cent on last year.
Hamilton says: “The seventh edition of Investec Fund Finance GP Trends research shows that fund finance is becoming an increasingly strategic tool used by private equity firms. As the prevalence of these facilities has grown, so has the creativity in how they are used. With a market that is increasingly characterised by fits and starts, GPs sitting on a large amount of dry powder require nimble, flexible, and creative financing from their debt providers to react quickly to market opportunities and maximise returns.”
