Mike Weir, White & Case

Sterling’s fall may be influential but not major factor attracting overseas investment

Private equity funds are not known to be currency speculators, but now that sterling has fallen since the decision was made to leave the European Union, currency valuations may be playing their part in the UK’s private equity market

A financial sponsor would usually have a vision of how it could drive a company forward once it has acquired it, regardless of macro situations. 

For example, Bain Capital’s purchase of the UK-based insurance firm Esure, where the focus will be on investing and enhancing technological innovations. 

The Silver Lake Group bought ZPG in May this year for over USD3 billion, with its decision to buy the property information outlet based on a growth outlook. 

However, currency fluctuations may be influencing financial sponsors’ decisions. 

Mike Weir, a corporate partner with extensive private equity experience, in the international law firm White & Case, explains: “There is evidence that in a competitive auction process, we are seeing more United States bidders lasting the course, and that the strength of the dollar is one factor helping them to get them to a higher valuation. 

“In truth we have been in a fairly weak sterling market for some time, the pound has been at a comparatively low value against both the dollar and the euro since the end of 2008.

“We have not seen the slowdown in mergers and acquisition activity that was expected following the Brexit vote, and it may be that the low value of sterling has helped offset some of the depressive effects of the Brexit process.” 

According to figures from Dealogic, there is little evidence to suggest that a weaker sterling has resulted in an increase of interest from overseas buyers. 

Between the second quarter of 2014 up to the end of the second quarter of 2016, before the fall out of the referendum result on European Union membership, merger and acquisition investments into the UK from all the announced deals climbed to just over GBP331.2 billion. 

Post the decision to walk away from Brussels up to the end of the third quarter this year, inward merger and acquisition deals amounted to GBP311.6 billion. 

This data is supported by Deloitte’s examination of the private equity deal corridor between the UK and the US, in its mergers and acquisitions deal monitor report involving the two countries.   

The dollar in particular has strengthened against sterling since Brexit.  

In the first half of this year, 238 deals were completed worth USD9.7 billion, with 152 US purchases of businesses in the UK. 

This is above the two-year average since the referendum result, but down from the 265 deals completed in the first six months of 2017 totalling USD34.3 billion, with 157 of the agreements arriving from the US. 

In the second half of 2016, 234 deals were finalised between the two countries. 

Although these deals were worth USD112.8 billion, in the final quarter of 2016 the completed agreements were worth USD93 billion. 

Deloitte said in its report that set against the backdrop of Brexit, and inward tax and business policy changes in the United States, the deal flows can be attributed to the resilience of both economies. 

Also, they highlighted how that in times of uncertainty, how cross border mergers and acquisitions can pose as a hedge against volatile macro economic conditions.  

Overall, the lack of clarity over Brexit is certain to spur some doubt over the private equity environment in the UK. 

Financial sponsors who are considering investing in the United Kingdom, are likely to be appropriately guarded. 

Ken McGrath, Head of EMEA Financial Sponsors Group for Barclays, reflects: “As a general rule ahead of Brexit, we find financial sponsors to be naturally cautious about investing in the United Kingdom.

“The United Kingdom private equity market typically accounts for around 30 per cent of all European transactions. Year to date it’s down to 21 per cent.

“As for exiting a business, some financial sponsors have chosen to wait for the Brexit dust to settle before moving forward on an IPO or business sale.” 

He adds: “The general trends at this stage of the cycle are that valuations are elevated, there is robust competition for investments with the amount of financial sponsor dry powder available.” 

The importance of currency value in the private equity market is usually surpassed by broader situations.  

What effects the private equity market in the UK can be rolled out to what is happening across political and economic landscapes around the world, alongside Brexit. . 

“Other macro factors are more important than relative currency strength when sponsors are considering an investment opportunity 

“Generally, the United Kingdom is viewed as stable and well regulated market and I am confident that it will continue to be viewed in that way, whatever the value of the pound or the outcome of the Brexit process,” adds Weir.

Currently the traditionally ripe sectors of the financial services, healthcare and pharmaceutical, and TMT are attracting the most attention from overseas buyers into the United Kingdom, since the European Union referendum. 

Fintech is a growing sector in merger and acquisition terms, but in contrast the retail sector is struggling, as it is reliant on UK sales from imported goods. 

This especially affects clothing companies who usually pay with the dollar to import its produce. 

US sponsors may take a more surgical look at what is available in the UK market, as there are far more sector specialist funds. 

Richard Parsons, head of Deloitte’s private equity coverage team, says: “The appetite from overseas markets for investment in the United Kingdom, stems from situations where they can add greater value to a business than a domestic private equity house. 

“Far eastern funds often look to take technology, or expertise into far eastern markets, potentially opening up very big markets. 
“Sterling denominated private equity funds typically have restrictions on where they can deploy their funds – typically into United Kingdom headquartered businesses.” 

The real challenge in the current climate for financial sponsors when investing into the UK, is to find the investment where there are the potential growth stories, for the typical private equity buy and exit cycle over five years. 

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