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Europe’s deal volume reaches 11-year high with EUR199 billion raised in 2018

When the International Monetary Fund released its forecast at Davos last month it expected a 1.6 per cent growth in Europe and a 3.5 per cent growth globally. When things are going well it’s all about value creation but when things are going badly it is the global macro environment – which perhaps some managers use as a safety blanket.  

With global macro risks on the rise, GPs are bracing themselves for what could potentially be a major economic correction in 2019 but not all PE managers are worried. 

Speaking at the 2019 International Private Equity Market event in Cannes at the end of last month, Jean Luc Allavena, Chairman and Founder of Atlantys Investors, said

he remained “reasonably optimistic” in terms of the EU backdrop for investment. 

He said Atlantys liked companies with significant, sustainable growth and potential resistance to commodity prices. There are significant threats such as Brexit, trade wars: these are uncertainties, which Allavena said “we don’t like”, adding that globally, it is unusual to have 10 years of continued growth, particularly in the US, so the big question mark is ‘When is the slowdown coming?’

It has been a golden period for global private equity markets over the last few years, and even though total fundraising levels contracted from USD566 billion in 2017 to USD426 billion in 2018, according to Preqin, the level of activity and LP interest remains at high altitude. 

Looking specifically at Europe, deal volume reached an all-time annual record of 2,230 in 2018, with a total of EUR199 billion raised (an 11-year high), according to the Q4 2018 Private Equity Barometer, published by unquote in association with Aberdeen Standard Investments. 

To underscore just how active the PE space has become, last year Hamilton Lane, one of the industry’s leading private equity advisory firms with USD409 billion-plus in advisory AUS, received approximately 900 PPMs globally. 

With so much dry powder in the market, bolstered by what has been a sellers market over the last 18 months or more, the challenge for investors is knowing how GPs will continue to generate value, given the pressure they are under to put that dry powder to work.   

Speaking alongside Allavena on the “Views on the EU Market” panel, Richard Hope, Managing Director at Hamilton Lane, said: “On average, we see around 30 per cent of capital (following exits) coming back into the market, which is a huge amount of money. We see these exits happening but equally we see a huge clamber on the GP to buy deals. That requires real discipline: how much are you willing to pay? How high will you go to complete a new deal? That’s the big challenge. When we do due diligence with managers, this is one of the areas we spend a lot of time discussing. What is the GP’s investment angle?”

If the markets do contract in 2019 because of a global economic slowdown, it could take a bit of heat out of valuation multiples which have reached record highs. For mid-market managers who focus on growth investment opportunities, this could create some good entry points, with Europe offering what is still a vast array of private company opportunities.

“We think it’s good to back some of the smaller, emerging managers because of their growth/lower end of the market focus and sharper alignment,” said Elias Korosis, Partner, Hermes GPE. “In an uncertain macro environment, we prefer to go with secular versus cyclical themes and managers who focus on these trends.”

Mathieu Chabran is co-founder of Tikehau Capital and Managing Partner & CIO, Tikehau Investment Management, based out of New York. He told the IPEM audience that five or six years ago, France in particular was perceived not to be an investable market, with investors preferring to focus their allocation programs on the UK, Germany and the Nordics. 

Now, however, with Brexit, Germany’s economy slowing and problems in Italy, perceptions are changing. For specialist PE groups in France, such as Tikehau, it is a propitious time to capitalise. 

“International investors have a strong interest in Europe and I believe they need local partners because they want to understand what’s happening in each jurisdiction – this favours pan-European managers. Investors realise they need exposure to Europe but they also realise that the vast majority of their GP relationships have been with London-based managers. 

“They are looking more closely at European managers to help them navigate the European markets in these uncertain times. What we’ve been experiencing so far is that many market players who are overweight Europe are leaving more room in their portfolios for more domestic local players,” suggested Chabran. 

Hamilton Lane’s Hope said the firm’s approach to Europe is to figure out who is the best steward of capital in the UK, the Nordics, Benelux etc. Investors of scale based in Asia, North America and other parts of the world don’t worry too much which country they are investing in, “all they want to know is they can navigate the European macro landscape and have the best European opportunities within their portfolio – and if it’s France, Germany, Luxembourg…they don’t mind too much. They just want best-in-class managers,” opined Hope. 

In terms of seeking out investments, over the last few years Atlantys has executed a limited number of deals in traditional industries, which Allavena said “were not overpriced in our view”. 

He said that industry trends have to be analysed and depending on the sectors one has identified there needs to be a specific angle, noting that “you have to be very opportunistic in traditional industries”. 

Atlantys has invested over the past five years at an average rate of 5.7x EBITDA when the market was above 10x EBITDA, explained Allavena. He said that as long as one can find (underpriced) opportunities at entry, one should be in a good position to lock in returns when it comes to exit.

Korosis believes the current environment is attractive for growth strategies. In terms of sectoral preferences, he referred to three in particular: fintech, healthcare and sustainability, including resource efficiency (which used to be captured under ‘cleantech’). 

“This is a sector Europe continues to be a global leader in,” said Korosis. “With respect to these three sectors – fintech/digital, healthcare and sustainability – we think Europe has a very interesting set of themes to pursue and build global champions.” 

Chabran emphasised that there is also a clear structural opportunity for private credit in Europe.

“There might well be some repricing and some more discipline on leverage but private credit is here to last in our view and should be part of portfolio allocations of any LP investing into private markets,” stated Chabran. 

For investors to continue favouring European private credit, however, rates need to rise. 

In the US, several Federal Reserve rate hikes have helped private credit strategies deliver higher returns. With Europe’s interest rate environment still flat to falling, private credit managers need to use more leverage to make decent returns. 

And with Europe’s economic powerhouse, Germany, slowing up and only narrowly avoiding recession thanks to zero per cent growth in Q4 2018 (following a 0.2 per cent contraction in Q3), there is little sign yet that the ECB will raise rates. 

European managers who focus on sectoral themes that are more immune to choppy macroeconomics could curry favour from global investors this year. 

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