Description
Bain & Company is the leading consulting partner to the private equity (PE) industry and its stakeholders.
GLOBAL PRIVATE EQUITY REPORT 2015
About Bain & Company’s Private Equity business
Bain & Company is the leading consulting partner to the private equity (PE) industry and its stakeholders.
PE consulting at Bain has grown ?vefold over the past 15 years and now represents about one-quarter of the
?rm’s global business. We maintain a global network of more than 1,000 experienced professionals serving
PE clients. Our practice is more than triple the size of the next largest consulting company serving PE ?rms.
Bain’s work with PE ?rms spans fund types, including buyout, infrastructure, real estate and debt. We also work
with hedge funds, as well as many of the most prominent institutional investors, including sovereign wealth
funds, pension funds, endowments and family investment of?ces. We support our clients across a broad range
of objectives:
Deal generation. We help develop differentiated investment theses and enhance deal ?ow by pro?ling industries,
screening companies and devising a plan to approach targets.
Due diligence. We help support better deal decisions by performing due diligence, assessing performance
improvement opportunities and providing a post-acquisition agenda.
Immediate post-acquisition. We support the pursuit of rapid returns by developing a strategic blueprint for
the acquired company, leading workshops that align management with strategic priorities and directing
focused initiatives.
Ongoing value addition. We help increase company value by supporting revenue enhancement and cost reduction
and by refreshing strategy.
Exit. We help ensure funds maximize returns by identifying the optimal exit strategy, preparing the selling
documents and prequalifying buyers.
Firm strategy and operations. We help PE ?rms develop distinctive ways to achieve continued excellence by devising
differentiated strategies, maximizing investment capabilities, developing sector specialization and intelligence,
enhancing fund-raising, improving organizational design and decision making, and enlisting top talent.
Institutional investor strategy. We help institutional investors develop best-in-class investment programs across
asset classes, including PE, infrastructure and real estate. Topics we address cover asset class allocation, portfolio
construction and manager selection, governance and risk management, and organizational design and decision
making. We also help institutional investors expand their participation in PE, including through co-investment
and direct investing opportunities.
Bain & Company, Inc.
131 Dartmouth Street
Boston, Massachusetts 02116 USA
Tel: +1 617 572 2000
www.bain.com
Global Private Equity Report 2015 | Bain & Company, Inc.
Page i
Contents
Finding meaning in the year of the exit . . . . . . . . . . . . . . . . . . . . . . . . . . pg. iii
1. The PE market in 2014: What happened . . . . . . . . . . . . . . . . . . . . . . . . . pg. 1
Exits: A year for the record books . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . pg. 2
– Exit channels were deep and broad
Fund-raising: Recycling the gains . . . . . . . . . . . . . . . . . . . . . . . . . . . . pg. 6
– LP demand: Ready, willing and able
– GP supply: It’s crowded out there
Investments: Turbulence beneath a calm surface . . . . . . . . . . . . . . . . . . . pg. 11
PE funds learn to dance to a slower Brazilian beat . . . . . . . . . . . . . . . . . pg. 15
Returns: Mind the gap . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . pg. 16
– The public market benchmark: Good compared to what?
Key takeaways . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . pg. 22
2. What’s happening now: Dynamics that
will shape PE in 2015 and beyond . . . . . . . . . . . . . . . . . . . . . . . . . . . .pg. 23
For better and worse, capital superabundance is here to stay . . . . . . . . . . pg. 24
– Getting right with capital superabundance: A GP’s guide
Shadow capital looms over PE . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . pg. 31
– Learning to live in the shadow: Lessons for GPs
Refocusing on America . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . pg. 39
– Making it in America: Precautions for GPs
Global Private Equity Report 2015 | Bain & Company, Inc.
Page ii
New macro risks challenge Europe’s PE investors . . . . . . . . . . . . . . . . . . pg. 44
It’s getting harder to spot the winners . . . . . . . . . . . . . . . . . . . . . . . . . . . pg. 46
– GPs’ mandate to differentiate
3. Back to basics: Portfolio building blocks for market-beating returns . . . . . . pg. 53
Identifying barriers to value creation: A self-assessment . . . . . . . . . . . . . . pg. 57
Global Private Equity Report 2015 | Bain & Company, Inc.
Page iii
Finding meaning in the year of the exit
Dear Colleague:
We’ve been waiting for big news from the PE industry for almost ?ve years, and 2014 delivered. Exits from buyouts
exceeded $450 billion, surpassing the all-time high by a wide margin. The ?ow of so much capital came as a
welcome relief to LPs and GPs alike and has infused the industry with new con?dence that returns from holdings
acquired during the peak investment years will end up better than most industry pundits feared. However, this
?ood of capital will have knock-on effects that raise new challenges for investors in 2015 and beyond.
The dramatic increase in exits marks the fourth consecutive year distributions have outpaced capital calls for the
LP community. As a result, LPs looking to maintain or increase their exposure to their highest returning asset
class made 2014 another strong year for fund-raising. Top funds attracted fresh capital very rapidly, as huge amounts
of money chased the same top-quartile performers. Most were oversubscribed and hit hard caps. So, where is
the extra capital going? Some of the over?ow is cascading into other funds, and some is even going into LPs’
own direct investment programs. By the end of last year, freshly committed dry powder hit a global record of
$1.2 trillion, including $452 billion earmarked for buyouts alone.
One thing that did not change very much in 2014 was the always limited supply of companies to buy; it has
remained relatively constant as the mountain of capital pursuing these companies has grown. Supported by a
continued abundance of low-cost debt and high valuations for comparable public companies in most markets,
more PE money chasing the same assets has led to stubbornly high pricing. The forces that are driving up
valuations are structural and very dif?cult to change. The challenge of how to make money investing in PE has
never been greater.
Our industry continues to evolve in interesting ways. Please read on to learn about the full impact of super-
abundant capital and why it will not ensure that PE rebounds from future downturns as well as it has from this
past one. See how “shadow capital” is reshaping the GP-LP relationship and risks shaking up the industry’s
economics. Discover the challenges of investing in the resurgent US market, why it has become so dif?cult to
spot winning funds and how to continue to invest for success as a GP.
We hope you will enjoy Bain’s latest Global Private Equity Report, and we look forward to continuing our dialogue
with you in the year ahead.
Hugh H. MacArthur
Head of Global Private Equity
February 2015
Global Private Equity Report 2015 | Bain & Company, Inc.
Page iv
Global Private Equity Report 2015 | Bain & Company, Inc.
Page 1
1. The PE market in 2014: What happened
With the results in for 2014, the characteristics of this remarkably durable private equity (PE) rebound have come
into sharper focus. It is now clear that PE has been riding the waves of a world awash in capital that show no signs
of breaking anytime soon. Worldwide, the number and value of buyout exits climbed to an industry record last
year. Strong distributions of capital ?owed back to LPs, helping to make 2014 another solid year for raising new
funds. But while it has been a great time to be a seller in the current cycle, it has been challenging to be a buyer.
The combination of a surge in global liquidity and near-zero interest rates has in?ated asset valuations, lifting
acquisition multiples on PE investment targets. Global buyout investment activity has remained steady since the
recovery got under way (se Figure 1.1).
As 2015 unfolds, will the PE industry continue to display the resilience that has served it so well in a time
characterized by capital superabundance and torpid global growth? The industry’s near-term prospects will be
influenced by whether ongoing structural problems in the eurozone and slowing GDP growth in the Asia-
Paci?c region outweigh the gathering momentum of North America’s cyclical expansion, tipping the global
economy into recession. PE’s potential will also be shaped by whether the actions of central banks—in particular,
a long-anticipated interest rate hike by the US Federal Reserve Board—choke off the ready availability of cheap
high-yield debt or curb the animal spirits of the public equity markets.
Figure 1.1: It was a standout year for exits, while fund-raising and investments held steady
Notes: Exits: exclude bankruptcies; Fund-raising: includes funds with final close; represents year funds held their final close; Investments: exclude add-ons, loan-to-own transactions
and acquisitions of bankrupt assets; based on announcement date; include announced deals that are completed or pending, with data subject to change
Sources: Dealogic; Preqin
Exits
0
100
200
300
400
$500B
2010 11 12 13 14
Global buyout exit value
Fund-raising
0
100
200
$300B
2010 11 12 13 14
Global buyout capital raised
Investments
0
100
200
$300B
2010 11 12 13 14
Global buyout deal value
Global Private Equity Report 2015 | Bain & Company, Inc.
Page 2
What will not change in the year ahead, however, are the forces unleashed by superabundant global capital. As
we will explain in Section 2 of this report, asset prices will remain chronically high as dry powder continues to
pile up and competition for deals remains feverish—including competition from large pools of “shadow capital”
in the hands of big institutional investors and sovereign wealth funds looking to co-invest, or even bypass PE
funds entirely. Those factors will turn up the heat on general partners (GPs) to demonstrate new resourcefulness
by digging deeper into the pool of companies that could bene?t from PE ownership or by discovering untapped
opportunities, particularly in the relatively attractive US market. Whether the economic expansion keeps grinding
along or ends in a downturn in 2015, PE ?rms will need to become authors of their own success by grooming
their portfolio companies to prosper in any business climate. In Section 3, we identify the barriers that would-be
PE portfolio activists face and describe the building blocks for engaging early and effectively with portfolio
company management.
Exits: A year for the record books
Optimism was high on the exit front going into 2014. Public equity markets in Europe and North America
had registered strong gains in the preceding year, laying a solid foundation for lucrative initial public offerings.
Cash-rich corporate acquirers, feeling pressure to meet shareholder demands for growth, were poised to
open their wallets for PE-owned companies that ?t their strategic goals. And deal-hungry PE funds, eager to
put capital to work, were ready buyers-in-waiting of assets groomed by PE owners inclined to sell in sponsor-
to-sponsor transactions.
In the end, exits in 2014 shattered even the lofty expectations of an industry primed for a good year. Worldwide, the
numbers and value of buyout-backed exits reached new records (se Figure 1.2). At better than 1,250 sales, last
year’s exit count surpassed its previous peak of 1,219 transactions in 2007. And total exit value, at $456 billion, also
blew past its previous record of $354 billion in 2007 and was 67% higher than it was in 2013.
A superabundance of global capital and sustained high asset valuations powered these dramatic gains in most
regions of the world, making sellers rejoice and buyers cautious. There were healthy double-digit increases in
the number of buyout exits from the year before: 22% in North America and 16% in Europe. In the Asia-Paci?c
region, which is typically not a buyout market, the number of buyout-backed exits dropped 12%, but overall, PE
exits, including sales of minority stakes in private companies and shares of publicly traded enterprises, jumped
22%, to 476 sales—well above the previous year.
A world awash in capital more dramatically affected deal values across the major regions. Notably, buyout-backed
exits in Asia-Paci?c markets shot up to nearly $53 billion, a 120% increase. In all, Asia-Paci?c exits topped $105
billion. Europe saw the biggest jump in the value of buyout-backed exits, increasing to $173 billion from just
$85 billion in 2013. Buyout sales in North America rose a solid 34%, to more than $214 billion.
As PE funds continued to harvest the unrealized value in their portfolios, the average holding period has
lengthened—and will continue to stretch because so many holdings acquired during the boom years have yet
to be fully exited. For buyouts exited in 2014, the median holding period had extended to a record-long 5.7 years,
up from just 3.4 in 2008. Many investments made before the global ?nancial crisis simply required more time
to be made ready for exit. Also, it takes longer to groom assets acquired at high purchase multiples after the crisis
to yield acceptable returns. Indeed, 60% of assets sold in 2014 had been in PE portfolios for more than ?ve years;
in comparison, only 11% had been held less than three years—so-called “quick ?ips” (se Figure 1.3).
Global Private Equity Report 2015 | Bain & Company, Inc.
Page 3
Figure 1.2: The number and value of buyout-backed exits hit new records in all regions in 2014
Notes: Bankruptcies excluded; IPO value represents offer amount and not market value of company
Source: Dealogic
0
500
1,000
1,500
Value of global buyout-backed exits
5
96
15
97 98
40
99 00 01
52
02
44
03
65
04
170
05
252
06
232
07 08
150
09
68
10 11
273
12
239
13
274
14
456
Count of global buyout-backed exits
100
200
300
400
$500B
0
1995
14
37
82
354
254
North America
Europe
Asia-Pacific
Rest of world
Total count
Figure 1.3: In 2014, fewer than 10% of exits were “quick ?ips” of assets held less than three years
Source: Preqin
0
20
40
60
80
100%
Year of exit
Percentage of global buyout-backed investments exited (by length of time investment was held in fund portfolio)
>5 years 3–5 years <3 years
06 07 08 09 10 12 13 14 2004 05 11
Global Private Equity Report 2015 | Bain & Company, Inc.
Page 4
Exit channels were deep and broad
Exits through all channels increased signi?cantly last year, with sales to strategic buyers and IPOs dominating
(se Figure 1.4).
Sales to strategic buyers have traditionally been the biggest channel for buyout-backed exits, and corporations saw
their purchasing power turbocharged in 2014. With capital spending restrained in a hesitant global expansion,
corporations sat on unprecedented cash reserves, and the steep climb in public equity markets made their shares
a valuable supplemental currency they could use for acquisitions. Historically low interest rates and wide-open
debt markets added further rocket fuel to boost corporations’ ability to buy.
Along with this increased wherewithal came a much greater willingness to put it to work. Shareholders demanded
that corporations boost growth and earnings in order to warrant sharply higher share prices. But organic growth
was hard to come by in a competitive, low-in?ation economy, making mergers and acquisitions an attractive
path forward.
Corporate acquirers were discerning shoppers for assets that ?t their strategic goals, buying 715 PE portfolio companies
in 2014—13% more than the year before. And deal sizes were also much larger than in 2013: By value, total exits
to strategic acquirers topped $303 billion—a 91% jump. Three buyout-backed exits came in at valuations exceeding
$10 billion, led by KKR’s completion of the $25.1 billion sale of UK-based drugstore chain Alliance Boots to Walgreen
Company, the largest US drug retailer (se Figure 1.5).
Figure 1.4: Buyout-backed exits increased across all channels in 2014; IPOs and strategic sales dominated
Notes: Bankruptcies excluded; IPO value represents offer amount and not market value of company
Source: Dealogic
Strategic
Sponsor-to-sponsor
IPO
Total count
0
100
200
300
400
$500B
0
500
1,000
1,500
Value of global buyout-backed exits
5
96
15
97 98
40
99 00 01
52
02
44
03
65
04
170
05
252
06
232
07 08
150
09
68
10 11
273
12
239
13
274
14
456
Count of global buyout-backed exits
1995
14
37
82
354
254
Global Private Equity Report 2015 | Bain & Company, Inc.
Page 5
Robust equity markets underpinned the success PE sellers enjoyed in strategic exits and served as a potent exit
channel in its own right through IPOs. Globally, buyout-backed IPOs numbered 210, an increase of 20% over
2013, and their value jumped 48%, to $86 billion. Even though IPO activity weakened in the second half of the
year due to greater market volatility, nearly three-quarters of public offerings ?oated by PE ?rms sold within or above
their target range. Indeed, because valuations in the public markets were often higher than those of privately held
assets, PE ?rms often pursued dual-track sales processes to maximize the value of their holdings.
Exits via IPOs were strong, particularly in Europe and the Asia-Paci?c region. Buyout-backed IPOs doubled both
in number and value in Europe. In the Asia-Paci?c markets, their value almost quintupled, and the $63 billion value
of new share offerings exceeded the value of strategic sales and sponsor-to-sponsor exits combined. Accounting
for the big increase in the Asia-Paci?c region was the reopening of China’s IPO market, a critical venue for IPOs
across the Asia-Paci?c region, which regulators had shut amid accounting scandals in late 2012. Even excluding
the $21.8 billion public debut of Alibaba, China’s biggest e-commerce company, the value of PE-backed IPOs in
the Asia-Paci?c region in 2014 was still three times what it had been a year earlier.
The big of?cial numbers posted in 2014 do not fully re?ect how important the healthy IPO market has been to
PE ?rms, because they re?ect only the value based on the issuing price for the shares offered. What they fail to
capture is the imputed full market value of the portfolio company, including shares that remain to be sold in future
offerings. Examining the 100 biggest PE exits worldwide, a Bain & Company analysis found that 49 were IPOs
carrying a market value of $184 billion, which nearly matched the $188 billion disclosed value of the 38 largest
strategic sales and the 13 biggest sponsor-to-sponsor deals combined.
Figure 1.5: Exits to strategic buyers were up sharply in 2014 and included three valued at $10 billion
or more
Target name
Target
country
Target
industry Seller
Initial
entry year
Strategic
acquirer
Deal value
($B)
Quarter
announced
Notes: Initial entry year is based on deal’s close date; deal value includes debt and is as reported by Dealogic as of January 2015
Sources: Dealogic; Preqin
Alliance Boots UK Retail KKR 2007 Walgreen
Company
25.1 Q3
Biomet US Healthcare Blackstone; Goldman Sachs; KKR; TPG 2007 Zimmer Holdings 13.4 Q2
Grupo Corpo-
rativo Ono
Spain Telecom CCMP; Providence Equity; Quadrangle
Group; Thomas H. Lee Partners
2003 Vodafone
Group
10.0 Q1
Athlon Energy US Oil and gas Apollo 2010 Encana 6.8 Q3
Nuveen
Investments
US Finance Madison Dearborn 2007 TIAA-CREF 6.3 Q2
Oriental
Brewery
South
Korea
Food and
beverage
Af?nity Equity; KKR 2009 Anheuser-Busch
InBev
5.8 Q1
Numericable
Group
France Telecom Carlyle; Cinven 2005 Altice Group 5.7 Q2
Omega
Pharma
Belgium Healthcare Waterland 2012 Perrigo 4.5 Q4
Arysta
LifeScience
US Agriculture Permira 2008 Platform
Specialty Products
3.5 Q4
OneWest
Bank
US Financial
services
Dune Capital Mangement; J.C. Flowers; MSD
Capital; Paulson & Company; Silar Advisors;
Soros Fund Management; Stone Point Capital
2009 CIT Group 3.4 Q3
Global Private Equity Report 2015 | Bain & Company, Inc.
Page 6
The new IPOs also understate in other ways the importance of public equity markets as an exit venue for private
equity. PE funds, for example, tapped the strong stock markets in 2014 to issue $103 billion worth of follow-on
shares for portfolio companies that had previously held an IPO. In all, the combined value of new buyout-backed
IPOs and follow-on issuances from “old exits” totaled $189 billion last year and was a critical source of capital
that PE ?rms could distribute to their LPs.
Any year that boasts solid double-digit gains both in the number and value of exited deals has got to be counted as a
strong one. By that standard, sponsor-to-sponsor transactions certainly quali?ed in 2014. By count, sales to PE buyers
were up 15%, and by value, they increased a solid 18% over the previous year. Only in a great year for exits would
numbers like these look modest, but such were the conditions PE sellers faced in sales opportunities to corporate
acquirers and in the hot IPO markets that sponsor-to-sponsor deals traf?cked mainly in leftover holdings.
Fund-raising: Recycling the gains
GPs that hit the trail to raise capital for new funds in 2014 encountered the same forces at work as they did in 2013,
a strong year for fund-raising. Flush with cash distributions from an exceptional year of exits, LPs were eager to
top up their allocations to PE, their best performing asset class. But they remained highly selective in the
commitments they were prepared to make and the ?rms with which they were willing to invest. The road warriors
also ran into a record number of like-minded GPs competing fiercely for the same goal. The result: Highly
discriminating LP investors and hungry fund sponsors racked up another solid year on the fund-raising front.
Worldwide, 1,001 PE funds—200 fewer than in 2013—landed $499 billion in new capital commitments last year.
This value was 6% less than the year before, but funds raised over the past two years exceeded that in all but the
boom years between 2006 and 2008. Capital raised for buyout funds dropped 11%, but growth funds, secondaries
and venture funds all scored impressive gains (se Figure 1.6).
The drop in buyout fund-raising from a year earlier was more a consequence of the idiosyncrasies of the funds
that happened to be in the market than a sign of weakness. In 2013, buyout ?rms recorded the close of ?ve mega-
funds exceeding $10 billion, including the $18.4 billion Apollo Investment Fund VIII. Last year saw the close of
just one such fund, the $10.9 billion Hellman & Friedman VIII, but it came in at 22% above target within six
months. Although many LPs remain averse to mega-buyout funds, larger LPs with a lot of capital to invest have
little choice other than to sign on if they are going to meet their PE asset-allocation goal. Indeed, the best of the
mega-buyout funds turned away LPs looking to make new commitments. For example, Hellman & Friedman VIII
was reportedly oversubscribed by several billion dollars. In the end, seven of the year’s biggest buyout funds
brought in more than $5 billion each, and all of them met or exceeded their targeted fund-raising goal.
If the bigger buyout funds were able to win over reluctant LPs, mid-market funds looking to raise between
$500 million and $3 billion faced no such reticence. GPs shopping these funds won commitments totaling
$68 billion in 2014, and competition among LPs to get an allocation with the better performing GPs was ?erce.
By region, fund-raising increased for Europe-focused PE funds in 2014, despite current economic weakness
and stubborn structural challenges that will hang over the eurozone in coming years. Fund-raising also rose
in the Asia-Paci?c region, where patient institutional investors ?nally saw distributions pick up since 2013.
In North America, fund-raising settled below the high level achieved in the previous year, which had been
in?ated by the closing of a large number of US mega-buyout funds.
Global Private Equity Report 2015 | Bain & Company, Inc.
Page 7
LP demand: Ready, willing and able
LPs had both the con?dence and capacity to commit fresh capital to new PE funds in 2014. Over the longer term,
gains from PE investments towered above those of all other major asset classes in LPs’ portfolios. As of midyear,
the median return of PE holdings in public pension fund portfolios over a 10-year time horizon was 10.8% vs. 8.2%
for public equities, 6.4% for real estate investments and 5.4% for ?xed income.
Both the magnitude and consistency of those returns have reinforced LPs’ conviction that their PE investments
were meeting or exceeding their expectations. A recent survey by Preqin, the alternative assets data provider,
found that just 8% of LPs felt PE had fallen short, compared with 19% that had expressed some disappointment
just three years ago. And with near unanimity, LPs believe that PE markets will continue to outperform public
markets in the future, even as they anticipate that the performance gap will narrow in the wake of ?ve years of
steady stock market gains. With that faith in PE, it is little wonder that 84% of LPs responding to the Preqin
survey said they planned to maintain or increase their PE allocation. As one LP we interviewed last fall put it,
“I don’t know where else you would put capital.”
LPs have lots of room—and plenty of capital—to back new PE funds. They have seen a bounty of cash flow
their way over the past four years as distributions from GPs exiting mature investments have outpaced
capital calls in a slower-paced deal-making environment. This recycling of capital is one important pillar
supporting PE fund-raising, and it has been gaining strength in all major regions of the world. In the
US and Europe, distributions have exceeded new cash calls every year since 2011. In 2014, LPs invested in US
buyout funds got back $2.40 for each dollar called; in Europe, LPs received $2 for every dollar they were expected
Figure 1.6: In 2014, PE fund-raising slipped 6%, to $499 billion, but the year still ended strong
Notes: Includes funds with final close and represents year funds held their final close; distressed PE includes distressed debt, special situation and turnaround funds; other includes
PIPE and hybrid funds
Source: Preqin
0
200
400
600
$800B
2003
105
04
216
05
362
06
543
07
666
08
685
09
318
10
295
11
343
12
392
13
528
14
499
Global PE capital raised (by fund type)
(13–14)
CAGR
(09–14)
CAGR
–11% 11% Buyout
–50% 3% Mezzanine
50% 83%
–6% 9%
Other
1% 12% Real estate
37% 11% Venture capital
–13% 30% Infrastructure
41% 12% Growth
18% 3% Secondaries
–25% 12% Distressed PE
–22% 0% Nat resources
–16% –11% Fund of funds
Global Private Equity Report 2015 | Bain & Company, Inc.
Page 8
to ante up. LPs that invested in Asia-Pacific growth and buyout funds, too, have been cash-flow positive in
2013 and 2014, following a seven-year drought. The turnabout may mark a turning point for LPs in the Asia-
Paci?c region, sparking their renewed interest in making new commitments to Asia-Paci?c–focused funds
(se Figure 1.7).
Another crucial support holding up fund-raising over the past two years has been the strong returns generated
by the bullish public equity markets. Rising stock prices have in?ated the unrealized value of institutional investors’
overall portfolio holdings, requiring them to boost their new commitments to PE funds simply to maintain their
target allocation for the asset category. Based on Preqin data, nearly half of all LPs were tracking below their target
PE allocation by the end of 2014, compared with just shy of 30% that were underweighted at the end of 2012.
The bottom line: Fund-raising has plenty of room to grow on the demand side.
GP supply: It’s crowded out there
LPs looking for PE funds to back had an abundance of choices. GPs shopping more than 2,000 funds of every
description and across all geographies were on the road as 2014 began, looking to raise approximately $740 billion,
with nearly one-half of that amount targeting investments in North America. Europe-focused funds aimed to bring
in $196 billion, or about one-quarter of the total, and funds earmarked for the PE markets in the Asia-Paci?c region
and the rest of the world accounted for the balance. By fund type, sponsors of buyout funds were looking to raise
more than one-quarter of capital sought worldwide.
Figure 1.7: Positive cash ?ow from distributions supported new PE fund commitments
US Asia-Pacific Europe
–100
–50
0
50
$100B
Capital contributions and distributions
by US buyout funds
09 10 11 12 13 1H14 2008
2.4 0.3 0.5 0.9 1.3 1.9 3.1
Ratio of
distributions to
contributions:
0
–40
–20
20
$40B
Capital contributions and distributions
by European buyout funds
2008 09 10 11 12 13
2.0 0.4 0.2 0.6 1.5 1.5 2.4
1H14
Ratio of
distributions to
contributions:
–20
–10
0
10
$20B
Capital contributions and distributions
by Asia-Pacific buyout and growth funds
2008 09 10 11 12 13 1H14
1.6 0.3 0.5 0.8 0.7 0.5 1.2
Ratio of
distributions to
contributions:
Contributions Distributions Net cash flows
Note: Europe includes developed economies only
Source: Cambridge Associates
Global Private Equity Report 2015 | Bain & Company, Inc.
Page 9
The key to GPs’ prospects for fund-raising success, of course, was to hit the sweet spot of what LPs were
looking to buy. Mid-market buyout funds targeting the US and Europe remained in high demand, capturing
the top two spots in Probitas Partners’s 2014 and 2015 institutional investor trend surveys of LPs’ fund preferences.
Similarly, growth-capital funds continued to rank high on LPs’ lists. Big buyout funds again had a low ranking,
but they managed to attract a lot of capital from major institutional investors with large sums of capital to
put to work.
The pace and intensity of fund-raising remain hot and are markedly improved over what they had been earlier
in this PE cycle. In 2009 and 2010, fund-raising was largely on pause as LPs’ willingness and capacity to take
on new commitments were weak. In 2011, when LPs started to enjoy positive cash ?ows that enabled them to
reinvest in PE, GPs surged to capitalize on the green shoots of a recovery by mounting new fund-raising
campaigns. Competition intensified as GPs’ eagerness to raise new funds far outstripped LPs’ ability to
commit. With demand from LPs finally coming into full bloom, the fund-raising market in 2013 and 2014
has settled into a more normal equilibrium. More than twice as many buyout funds came to market last year
as closed during the year, with GPs looking to raise two times more capital than LPs ended up committing
(se Figure 1.8).
The persistent imbalance between GP supply and LP demand continues to make fund-raising challenging.
The average amount of time GPs needed to raise a new PE fund still hovers at nearly 17 months—little changed
since the global ?nancial crisis. Buyout funds appear to be having more success, with the average time to raise
Figure 1.8: The wide gap has narrowed between GPs’ supply of buyout funds and LPs’ demand for them
0
1
2
3
4X
The number or value of buyout funds on the road during the year divided by the number or value of buyout funds closed that year
2005
2.0
1.8
2006
2.0
1.8
2007
2.0
1.8
2008
1.9
2.0
2009
2.3
2.4
2010
2.2 2.2
2011
3.1
2.5
2012
3.2
2.5
2013
2.0
2.3
2014
2.0
2.3
Source: Preqin
Aggregate capital Number of funds
Global Private Equity Report 2015 | Bain & Company, Inc.
Page 10
a fund down to around 14 months for funds closed in 2014. Of course, averages obscure the reality that the
most successful and sought-after GPs have been able to raise new capital quickly and easily, while others have
struggled. Among the PE funds that closed in 2014, 30% met or exceeded their fund-raising target within
12 months, a meaningful improvement from two years ago. Buyout fund-raisers were more successful, with
nearly half raising the capital they sought within a year (se Figure 1.9).
With so much money in the hands of LPs looking to reinvest in PE, the improved fund-raising results enjoyed
by top-performing ?rms is spilling over to other GPs more broadly. Money that could not ?nd a home in a new
fund of a top-performing GP is cascading down to GPs with weaker or shorter track records, enabling more funds
to successfully raise capital.
LPs are still shying away from recommitting to GPs with whom they have had a bad experience. But in a recent
Preqin survey, four out of ?ve LPs said they were open to investing with a GP with whom they had not previously
worked. It takes signi?cant investment for PE ?rms to cultivate relations with new LPs that may eventually result
in a commitment of capital to a new fund, but the evidence shows it is paying off. Among funds that had their
?nal close between 2012 and 2014, 64% of funds were able to replace 30% or more of the LPs that had invested
in a predecessor fund with new investors.
Figure 1.9: Fund-raising remained bifurcated in 2014, but more GPs had success raising capital than
in prior years
Source: Preqin
30% of all PE funds successfully raised capital
Hit or beat target in less than 1 year Hit or beat target in 1–2 years Raised less than target and/or took more
than 2 years
48% of buyout funds successfully raised capital
0
20
40
60
80
100%
2012
2013
2014
Year of final close
Percentage of PE funds closed
0
20
40
60
80
100%
2012 2013 2014
Year of final close
Percentage of buyout funds closed
Global Private Equity Report 2015 | Bain & Company, Inc.
Page 11
Investments: Turbulence beneath a calm surface
PE buyout activity has been remarkably ?at since the latest expansion cycle kicked into gear back in 2010, and
2014 marked a continuation of that trend. Unlike in past cycles, when deal making steadily gained momentum
as con?dence in the upswing solidi?ed, recent buyout activity has barely budged since snapping back from
2009’s recessionary levels (se Figure 1.10). In fact, buyout ?rms announced 1,955 transactions in 2014—
only 85 more than in 2010—with a total deal value of nearly $252 billion. Minor year-to-year ?uctuations in the
deal totals over the current cycle re?ect more the idiosyncrasies of the speci?c transactions completed in a given
12-month period than a shift in trend.
Yet the apparent calm on the new-investment front masks intense—and growing—deal-making pressures just
beneath the surface. The forces at work cut two ways. First, PE funds’ keen hunger to buy in an environment of
intense competition, on the one hand, did battle with GPs’ self-imposed restraint not to overpay. Second, the
continued rise of the public equity markets has lifted the ?oor on valuations that prospective PE buyers face,
increasing acquisition multiples to levels that price many deals out of reach.
Vast sums of undeployed capital in the hands of a record number of PE firms has been the biggest factor
propelling deal making forward in 2014. Nearly 6,000 active PE firms (more than 1,000 of them buyout
firms), wielding $1.1 trillion in dry powder ($408 billion of it earmarked for buyouts), were in the hunt for
Figure 1.10: Global buyout activity changed little over the past four years
0
200
400
600
$800B
0
1,000
2,000
3,000
31
96
31
97
53
98
65
99
111
00
98
01
68
02
109
03
134
04
247
05
293
06 07 08
189
09
77
10
204
11
203
12
199
13
256
14
252
1995
687 673
Notes: Excludes add-ons, loan-to-own transactions and acquisitions of bankrupt assets; based on announcement date; includes announced deals that are completed or pending, with
data subject to change; geography based on target’s location
Source: Dealogic
Rest of world 44%
Asia-Pacific 35%
Europe 12%
North America –18%
Total count 2%
(13–14)
CAGR
Global buyout deal value Deal count
Global Private Equity Report 2015 | Bain & Company, Inc.
Page 12
acquisitions as 2014 began. As the year unfolded, PE firms refilled their coffers faster than they could put
capital to work; by year end, their mountain of dry powder topped out at a shade above $1.2 trillion—$452 billion
of it for buyouts (se Figure 1.1).
Lenders desperate for yield ?ocked to PE, holding down the cost of debt for buyouts and offering favorable terms
to issuers as the supply of credit far outpaced demand. Average multiples of debt used in leveraged buyouts in
2014 continued to climb in the US and Europe, inching back up to levels last seen during the prerecession years
of 2006 and 2007.
Abundant dry powder and credit were not just characteristics of the mature US and European markets; steadily
rising stores of capital overhung PE funds across the Asia-Paci?c region as well, pressuring GPs to put money
to work and cranking up competition for deals. In all, dry powder in the hands of Asia-Paci?c–focused buyout
and growth funds totaled $87 billion at the end of 2014, an increase of 64% from the end of 2008.
Instead of greasing the skids of global deal making, however, these vast sums of dry powder, supplemented by abundant
cheap debt in the hands of eager PE buyers, pushed up prices in a capital-saturated market where attractive assets
were in limited supply. Courted on all sides, would-be sellers in every major market could hold out for top dollar for
assets they controlled. PE buyers ran into stiff competition from familiar deal-making rivals. Flush with record-high
levels of cash, corporations remained active acquirers, as they have been since the start of the economic recovery.
Continued buoyant public equity markets also set a ?rm ?oor under asset valuations. Despite short-lived bumps that
gave sellers no reason to recalibrate their price expectations, the FTSE 100 and DAX indexes ended 2014 up 8% and
Figure 1.1: PE funds held record amounts of dry powder in 2014, including $452 billion for buyouts
Source: Preqin
0
500
1,000
$1,500B
As of year end
Global PE dry powder
2003
401
04
404
05
557
06
794
07
996
08
1,063
09
1,056
10
960
11
1,002
12
943
13
1,101
14
1,202
185 354 408 452 176 257 376 435 479 479 424 388 Buyout ($B)
13–14
CAGR
11% Buyout
16% Real estate
14% Venture capital
15% Infrastructure
–10% Growth
3% Distressed PE
–9% Mezzanine
11% Other
9%
Global Private Equity Report 2015 | Bain & Company, Inc.
Page 13
26%, respectively, and the S&P 500 soared 40% since the start of 2013, moving into record territory. According
to data analyzed by S&P Capital IQ through the middle of 2014, purchase-price multiples for leveraged buyouts
in the US averaged 9.6 times earnings before interest, taxes, depreciation and amortization (EBITDA) and
10 times EBITDA in Europe—highs the market had not seen since the peak of the last cycle.
Finally, self-imposed and externally applied restraints also reined in PE deal making. Coming out of the global
?nancial crisis, PE funds have avoided joining forces with one another in the big club deals that were so popular
in 2006 and 2007; as a result, the equity check size for any deal has been limited to what a single fund can write
(fund mandates typically cap a fund from investing more than 15% of the fund size in a single portfolio company)
along with co-investors. Squeezing PE deal size from the debt side, regulators are trying to limit the amount of
leverage on deals. In the US, for example, regulators have issued guidance to banks not to ?nance takeovers where
debt exceeds six times EBITDA.
Taken together, the caps on the amounts of equity and debt that can be marshaled to conduct a transaction keep
a fairly tight lid on deal size. Limitations like those take potential deals off the table—not just big public-to-private
conversions but also large sponsor-to-sponsor deals and carve-outs. The buyout market today is composed almost
exclusively of deals valued at less than $5 billion (se Figure 1.12).
Given the public equity markets’ rise, it is no surprise that few public-to-private transactions took place in 2014;
only three of the 10 largest buyout deals around the world were public-to-private conversions. Yet one bene?t of
the high valuations was the incentive they gave corporations to sell noncore assets. Many of these carve-outs ended
Figure 1.12: An increase in deals valued at $1 billion to $5 billion made up for the lack of mega-deals
in 2014
0
200
400
600
$800B
2003 04 05 06 07 08 09 10 11 12 13 14
134
247
293
687
673
189
77
204 203
199
256
252
Global buyout deal value
n/a
–50%
62%
19%
–1%
15%
(13–14)
CAGR
n/a
28%
7%
2%
3%
–2%
(10–14)
CAGR
>$10B
$5B–10B
$1B–5B
$500M–1B
$100M–500M
<$100M
- –2% 5%
Notes: Excludes add-ons, loan-to-own transactions and acquisitions of bankrupt assets; represents year deals were announced; includes announced deals that are completed or
pending, with data subject to change
Source: Dealogic
Global Private Equity Report 2015 | Bain & Company, Inc.
Page 14
up in PE portfolios, including four on the top 10 list. Sponsor-to-sponsor transactions rounded out the list of
the biggest deals announced in 2014. Meanwhile, sales of privately held companies, typically smaller transactions,
remain a mainstay of the industry.
As in Europe and North America, Asia-Paci?c–focused PE funds labored hard to put capital to work in 2014. At
$81 billion invested in more than 700 deals, the topline number on the total value of completed transactions in
the region set a record for the industry. But a more nuanced picture emerges if you look just beneath the surface:
A handful of mega-growth deals, each valued in excess of $1 billion and most originating in Greater China,
accounted for one-third of the year’s total deal valuation.
Traditionally and overwhelmingly, PE deals in Asia-Paci?c markets have been limited to purchases of minority
positions through private investments in public equities (PIPEs). Re?ecting both the markets’ increasing maturity
as well as investors’ sense that they need to take measures to protect themselves in today’s pricey deal market,
however, more PE funds are looking to acquire suf?ciently large stakes in the companies in which they invest to
gain some degree of operating control or, at least, to put themselves on a path to control. Although minority stakes
still dominate PE deal making in the Asia-Paci?c region, GPs appear to be increasingly successful in their efforts
to gain board representation, decision rights in the hiring or ?ring of key managers and a say in the company’s
large capital investment decisions.
The ?erce competition for deals has led PE ?rms around the world to roam beyond their normal hunting grounds
in search of new investments. Big buyout funds, for example, are pushing into the middle market. Worldwide in
2014, one out of every ?ve buyouts valued at between $250 million and $500 million involved at least one of the
15 largest GPs. In comparison, only one out of every eight middle-market deals attracted the biggest players at
the height of the previous PE cycle.
Hunger for deals has led PE ?rms to get creative. Some buyout funds appear to be increasingly open to purchasing
minority stakes, even when that means sacri?cing the control buyout GPs usually insist on having to build value in their
portfolio holdings. In October 2014, for example, TPG purchased a minority stake in GreenSky Trade Credit, a
US-based home improvement ?nancing company, for about $150 million. Other funds are investing in convertible
securities. Aeropostale, the struggling teen-clothing retailer, issued $150 million in convertible preferred stock
in 2014 to Sycamore Partners, a New York–based PE ?rm specializing in consumer and retail investments. The
investment gives Sycamore the right to increase its existing 8% stake in Aeropostale by an additional 5% and moves
the ?rm closer to its rumored ultimate goal of a takeover of the business. PE ?rms are even creating their own
businesses in order to put capital to work. Partnering with other investors early last year, for example, Goldman Sachs
provided start-up capital to launch Global Beverages & Foods in India. A. Mahendran, a serial entrepreneur with
deep experience in building consumer brands, will lead the new consumer products company. PE investors
are also showing a renewed interest in the “buy and build” strategy of making add-on investments to complement
a company they already own.
With heightened competition for assets raising multiples paid on new deals to record levels, PE ?rms are challenged
more than ever to generate outsized returns. GPs will need to earn their success by controlling what they can.
This includes becoming more creative in sourcing attractive transactions that offer unpriced value. GPs will also
need to take on risks that they are comfortable underwriting in their search for great performance.
Global Private Equity Report 2015 | Bain & Company, Inc.
Page 15
PE funds learn to dance to a slower Brazilian beat
In a world over?owing with capital to invest and cutthroat competition for deals in the aftermath
of the global ?nancial crisis, Brazil beckoned PE ?rms as a land of opportunity. The biggest market
in Latin America and the gateway to that still largely untapped region, Brazil boasted healthy GDP
expansion and rapidly rising household wealth, which enticed more than a dozen prominent global
buyout ?rms—among them, Actis, Carlyle Group, General Atlantic, TPG and Warburg Pincus—to plant
a ?ag there since 2007.
PE has sunk solid roots in Brazilian soil, but as has been the case in most dynamic young markets,
investors have had to adapt to fast-changing conditions. Brazil’s economy has slowed dramatically
since 2010 and ?irted with recession last year. Consumer income growth stalled and investor con?dence
sank amid the political uncertainty that surrounded the presidential election and large government
de?cits. The Bovespa stock index slid more than 20% over the past four years.
Meanwhile, dry powder continued to pile up. As 2014 began, PE funds were sitting on $4.7 billion
in capital commitments earmarked speci?cally for investment in Brazil, with a portion of another
$6.6 billion that had been targeted at South America likely ending up in Brazil. Three notable new
fund-raisings that closed during the course of the year—Advent International’s $2.1 billion, Pátria
Investimentos’s $1.8 billion and Gávea Investimentos’s $1.1 billion—dramatically increased Brazilian
PE’s capital overhang. Canada Pension Plan Investment Board, a major institutional investor; GIC,
Singapore’s sovereign wealth fund; and Tiger Global Management, the big hedge fund, also revved
up their search for PE deals in recent years.
Against that challenging backdrop, however, new PE deal activity held up surprisingly well. PE’s
continued strength stems from the bifurcated nature of the Brazilian market, which gives PE a seat
at the table in both good and bad economic times. Brazil’s economy is split between a relatively small
number of big, state-owned businesses and large, often public, companies, on the one hand, and the
vast majority of small, midsize and privately held companies, on the other. When looking for growth
capital, Brazil’s smaller businesses have few options. The public equity markets are unreceptive to
new offerings, and bank lending is either unavailable or very expensive. Private equity is often the
best source of new funding for these entrepreneurs.
In 2014, PE funds tacked to the shifting economic winds. In all, PE investors closed 56 deals last
year—fewer than the 66 transacted in 2013 but more than the 46 completed in 2012. Indeed,
successful PE deal makers managed to leverage the sluggish economy to their advantage. The
persistent gap in asset valuations between buyers and sellers, which had been a challenge to PE
deal making, narrowed considerably.
Successful deal makers are looking for potential deals outside of Brazil’s major urban centers and
capitalizing on their deep networks of local relationships to turn up proprietary opportunities. For
example, managing directors at Actis, a seasoned leader among PE ?rms that focus on emerging
Global Private Equity Report 2015 | Bain & Company, Inc.
Page 16
Returns: Mind the gap
The bar is always set high for PE returns. Long experience has accustomed LPs to expect that PE will remain their
best performing asset class. But as recently as just a few years ago, their con?dence that GPs could deliver on those
high expectations was badly shaken. PE returns lagged the public equity markets through 2009 and 2010, and
worries mounted that PE investments made during the boom years would end up being a disaster.
Today, however, PE is back. Riding the tailwinds of sharply higher public equity markets, PE returns roared
ahead in 2013 and had another strong showing through midyear 2014, according to the latest data available at
the time of publication. A cascade of capital is ?owing to PE investors. A recent survey by Preqin found that just
one out of every 12 LPs felt that PE failed to meet its expectations compared with one in four surveyed in July
2009. A wave of market beta—a heady mix of GDP growth, near-zero interest rates and covenant-lite loans, and
rising mark-to-market valuations—helped power PE’s rebound. GPs also had a starring role in the recovery,
markets, patiently courted the owners of Genesis Group—a major provider of inspection, certi?cation
and compliance services to the Brazilian agribusiness sector—after extensive research put the company,
located in the interior of the state of Paraná, on its radar.
Applying the same lessons for deal making in a slow Brazilian economy should serve PE funds well
in 2015, when GDP growth is forecast to be no better than it was last year and a further devaluation
of the real is anticipated. Companies suffering from ?nancial distress could generate re?nancing
and consolidation opportunities for PE. A dormant IPO market may incline entrepreneurs who are
looking to raise new capital to turn to PE for bridge investments that will tide them over until conditions
for new public offerings improve. And the currently low value of the public equity markets may present
opportunities for PE funds investing in public company shares to pick up bargains. PE investors should
continue to ?nd deals in sectors that are less tied to the growth themes that ?rst attracted them to
Brazil, such as rising consumer spending, by targeting assets that are more insulated from the
business cycle—like education, agribusiness, infrastructure and healthcare.
The major shadow hanging over Brazilian PE in 2014 has been constricted exit channels. With
IPOs off the table and just a few sponsor-to-sponsor transactions taking place last year, purchases
made by corporate acquirers presented the rare bright spot for PE exits. Though there were not
many sales to strategic buyers, those that occurred commanded strong valuations and produced
sizable returns. For example, GP Investments’s sale of Sascar, a leading ?eet management and
cargo tracking company, to tire company Michelin in 2014 generated a return of 2.6 times equity
within three years.
Unlike in other emerging markets, where PE money goes in but rarely comes out, Brazilian PE funds
have been able to sell assets and return capital to LPs even under dif?cult economic and market
conditions. PE ?rms’ continued ability to do so in what is shaping up to be another challenging exit
environment in 2015 will be an important test of their future fund-raising prowess.
Global Private Equity Report 2015 | Bain & Company, Inc.
Page 17
Figure 1.13: Short-term returns continued to climb through mid-2014
–60
–40
–20
0
20
40
60%
2004 05 06 07 08 09 10 11 12 13 14
Buyout Growth equity Venture capital Distressed Mezzanine Real estate
One-year end-to-end pooled net IRR (global funds)
Source: Cambridge Associates
One-year horizon ending in June
through smart financial and operational restructuring of assets that fortified them against the economic
storm and positioned them to benefit from the recovery. Together, the combination of market beta and the
alpha of active value creation engineered PE’s resurgence. PE returns are up both in the short run and over the
longer term.
The strong returns story re?ects solid fundamentals of robust exit markets and valuation gains on PE funds’ portfolio
holdings. But as we shall soon discuss, a disquieting concern lurks just beneath this shining surface. PE’s long-
term performance edge over investments in the public equity markets appears to be diminishing in recent fund
vintages. A gradual erosion in PE’s overall competitive advantage has important implications for PE investors.
LPs had good reason to cheer PE’s performance through the ?rst half of 2014, the latest results available at the
time of publication. According to data compiled by Cambridge Associates, an investment consulting ?rm, nearly
every major category of PE matched or exceeded the strong double-digit one-year gains racked up in 2013 (se
Figure 1.13). Buyout funds climbed 23%; growth-equity funds were up 25%; and venture capital funds came
in 30% above the previous year. Across the major geographic regions, buyout and growth-equity funds gained
24% in both the US and in the developed economies of Europe over 2014 through midyear; emerging-market–
focused funds posted a modest 5% uptick.
The strong short-term fund returns ?owed from two powerful streams: from the healthy gains funds realized
through asset sales in a buoyant year for exits, as well as from the appreciation in the carrying value of assets
that remained unsold in PE portfolios. The unrealized gains, the result of mark-to-market accounting adjustments,
have been an especially important contributor to the solid one-year results. Despite robust exit activity in
Global Private Equity Report 2015 | Bain & Company, Inc.
Page 18
recent years that has shrunk the once-long overhang of unrealized PE portfolio holdings acquired during the
boom years from 2005 through 2008, the value of all unrealized PE assets currently stands at a record $2.6 trillion
through June 2014, 50% more than at year-end 2010. The value of unrealized assets held in buyout funds now
stands at $942 billion.
Indeed, notwithstanding short-term swings in the public equity indexes, portfolio valuations for nearly every type
of PE holding have increased each quarter since September 2011. Only mezzanine funds and venture capital
funds experienced brief write-downs before rebounding.
A healthy recovery in longer-term PE returns mirrored the good short-run gains. Having hit a low of an 8.8% return
at the bottom of the PE cycle in 2009 and 2010, the return for global buyout funds over a 10-year time horizon has
trended gradually upward over the past four years, standing at 14.4% as of midyear 2014 (se Figure 1.14).
Stronger-than-expected returns from the big buyout fund vintages of 2005 through 2008 have contributed to the
recovery. Acquired at high prices in the years immediately preceding the global ?nancial crisis, asset valuations
of these large fund vintages took a huge hit when the public equity markets tumbled. GPs were obliged to stretch
out holding periods as they nursed assets back to health and gradually harvested gains. That work is well under way
for the oldest boom-year vintage: The 2005 funds have now remitted back to LPs 99 cents for each dollar of
original equity capital invested.
Figure 1.14: Long-term buyout-fund returns remain strong, at better than 14% annualized over 10 years
Source: Cambridge Associates
0
5
10
15
20
25%
1998 99 00 01 02 03 04 05 06 07 08 09 10 11 12 13 14
10-year end-to-end pooled net IRR (global buyout funds)
10-year horizon ending in June
Global Private Equity Report 2015 | Bain & Company, Inc.
Page 19
The recovery of the public equity markets has further helped the healing process, enabling GPs to mark up the
boom-year vintage holdings that remain in their portfolios to reflect their regained value. Because GPs are
generally conservative in their mark-to-market revaluations (they don’t want to surprise LPs with bad news in the
event they may later be required to discount some of the accounting gains they previously booked), these portfolio
gains likely understate what the boom-year vintage funds will ultimately yield.
The big boom-year vintages are back on track to deliver solid results (se Figure 1.15). Including both realized
and unrealized gains, the pooled returns of the median 2005 vintage buyout funds rebounded from minus 1.8%,
where they bottomed out by the end of the ?rst quarter of 2009, to 8% by the middle of 2014. The story for the
big 2006 and 2007 vintage buyout funds is much the same. Median returns for the 2006 buyout funds have
recovered from minus 18% at year-end 2008 to 8.6% in mid-2014; for the 2007 vintage, median returns snapped
back from minus 21.1% at year-end 2008 to 10.6% in the most recent accounting.
The public market benchmark: Good compared to what?
The truest test of PE performance is how returns—net of fees and carry—compare with those of the best alternatives
available. Indexes of publicly traded equities make reasonable benchmarks, but for the comparisons of returns to
be meaningful, they must explicitly acknowledge that PE investments are, by and large, lumpy and illiquid. Any
comparison must also recognize that PE is a long-term investment and the revaluation of portfolio holdings plays
a large role in determining short-term PE returns. Fortunately, independent researchers and investment advisory
?rms have made such apples-to-apples comparisons possible, in recent years, through the development of a
Figure 1.15: The big boom-year vintages are on track to deliver solid gains
Buyout vintage 2005 Buyout vintage 2007 Buyout vintage 2006
Since-inception median net IRR
–40
–20
0
20
40
60%
Q
4
2
0
0
6
Q
4
2
0
0
7
Q
4
2
0
0
8
Q
4
2
0
0
9
Q
4
2
0
1
0
Q
4
2
0
1
1
Q
4
2
0
1
2
Q
4
2
0
1
3
Q
2
2
0
1
4
Since-inception median net IRR
Q
4
2
0
0
7
Q
4
2
0
0
8
Q
4
2
0
0
9
Q
4
2
0
1
0
Q
4
2
0
1
1
Q
4
2
0
1
2
Q
4
2
0
1
3
Q
2
2
0
1
4
–40
–20
0
20
40
60%
Since-inception median net IRR
Q
4
2
0
0
8
Q
4
2
0
0
9
Q
4
2
0
1
0
Q
4
2
0
1
1
Q
4
2
0
1
2
Q
4
2
0
1
3
Q
2
2
0
1
4
–20
–30
–10
0
10
20
30%
Median for top quartile Median for all
Notes: Vintage year is determined by year of fund’s first cash flow; return data for all vintages is global
Source: Cambridge Associates
Global Private Equity Report 2015 | Bain & Company, Inc.
Page 20
measurement standard called the public market equivalent (PME). Cambridge Associates has re?ned one such
proprietary measure, called modi?ed PME (mPME), to replicate the timing and size of PE investment ?ows—
including both purchases and sales—as if they had been invested, instead, in a basket of publicly traded stocks.
When stacked up against this benchmark, US-focused buyout funds underperformed the S&P 500 mPME over
a one- and a three-year holding period, equaled the mPME over ?ve years and then surpassed the index returns
over a 10- and a 20-year time horizon (se Figure 1.16). Europe-focused buyout-fund returns badly lagged those
of the European stock index mPME after just one year, but they began to overtake them by the third year and
continued to outpace the benchmark by widening margins over a ?ve-, a 10- and a 20-year investment horizon.
In the Asia-Paci?c region, the combined returns for buyout and growth funds surpassed public market gains
over all investment periods.
PE’s continued ability to outpace public market gains over the long term can no longer be taken for granted. That
performance edge has narrowed considerably for more recent vintage funds (se Figure 1.17). Among most US- and
Europe-focused buyout funds raised between 2006 and 2008—a cohort that has had suf?cient time to invest capital
and harvest realized gains—returns merely track those of the S&P 500 mPME and MSCI Europe mPME, respectively.
At this point, no one can know whether the more recent vintage funds will see their returns accelerate as they
mature and realize more of their gains through exits rather than mark-to-market revaluations. But as Figure 1.17
shows unambiguously, top-quartile buyout funds continue to maintain a sizable performance lead over the
benchmarks, as they have for all fund vintages virtually since the PE industry’s inception. There is more pressure
than ever on LPs to sort out who those top-performing GPs will be going forward.
Figure 1.16: Buyout funds have outperformed public markets in all major regions over longer time horizons
Notes: Europe includes developed economies only; Cambridge Associates’ mPME is a proprietary private-to-public comparison methodology that evaluates what performance would
have been had the dollars invested in PE been invested in public markets instead; the public index’s shares are purchased and sold according to the PE fund cash-flow schedule
Source: Cambridge Associates
US Europe
End-to-end pooled IRR (as of June 2014)
Investment horizon
0
5
10
15
20
25
30%
1
year
23
25
3
years
15
16
5
years
1919
10
years
14
8
20
years
13
8
Asia-Pacific
End-to-end pooled IRR (as of June 2014)
Investment horizon
0
5
10
15
20
25
30%
1
year
22
13
3
years
9
6
5
years
16
9
10
years
13
5
20
years
11
4
S&P 500 mPME US buyout funds
End-to-end pooled IRR (as of June 2014)
Investment horizon
0
5
10
15
20
25
30%
1
year
24
30
3
years
9
8
5
years
15
12
10
years
16
7
20
years
17
7
MSCI Europe mPME EU buyout funds MSCI All Country
Asia mPME
Asia-Pacific buyout
& growth funds
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Page 21
Figure 1.17: Top-quartile funds continue to outperform, but for average funds the gap has narrowed
US buyout funds European buyout funds
Fund vintage
Since-inception pooled net IRR (by vintage year, as of June 2014)
0
10
20
30
40
50%
1998 99 00 01 02 03 04 05 06 07 08
S&P 500 mPME All funds Top-quartile funds
Fund vintage
Since-inception pooled net IRR (by vintage year, as of June 2014)
0
10
20
30
40
50%
1998 99 00 01 02 03 04 05 06 07 08
MSCI Europe mPME All funds Top-quartile funds
Notes: Europe includes developed economies only; vintage year is determined by year of fund’s first cash flow; vintages after 2008 were excluded because they have relatively
few investments and realizations; Cambridge Associates’ mPME is a proprietary private-to-public comparison methodology that evaluates what performance would have been
had the dollars invested in PE been invested in public markets instead; the public index’s shares are purchased and sold according to the PE fund cash-flow schedule
Source: Cambridge Associates
Global Private Equity Report 2015 | Bain & Company, Inc.
Page 22
Key takeaways
• PE continued to ride the waves of a world awash in capital in 2014, making it a great time to be a seller, as
investors looking to put capital to work were eager acquirers of PE-owned assets. But it was a dif?cult time
to be a buyer, as a superabundance of capital in the hands of GPs and other investors—along with strong
public market valuations—stirred intense competition and in?ated asset prices.
• Buyout-backed exit activity hit record highs worldwide for both deal count and value. In 2014, sales to
corporate strategic buyers were up 13% by count and much more in value than in 2013, as several very large
assets traded. PE sellers took advantage of accommodating public equity markets to launch IPOs, which
increased in number by 20% over the past year, and to execute follow-on sales of shares by companies that had
previously held an initial offering. Sponsor-to-sponsor sales were up as well, but the strength of the strategic-
buyer and IPO channels limited how good a year it was for this exit channel.
• Global PE fund-raising was down 6% in 2014, but the drop was due more to the idiosyncrasies of the funds
that happened to be in the market than a sign of weakness. Just one mega-buyout fund exceeding $10 billion
closed in 2014, compared with ?ve in the previous year. LPs were ?ush with cash from increasing distributions
and continued to recycle capital into new PE funds. Although GPs’ supply of new fund offerings continued
to outstrip LPs’ demand by about two to one last year, more funds managed to reach their goals. Indeed, with
so much money in the hands of LPs, capital that could not ?nd a place in a fund offered by top-performing
?rms spilled over into other GPs’ funds.
• Buyout investment activity barely budged in 2014—up just 2% by count and down by the same percentage
in value. An increase in deals valued between $1 billion and $5 billion made up for the lack of mega-deals
last year. Low-cost debt ?nancing was readily available, and GPs were sitting on a mountain of dry powder
they were eager to put to work—more than $400 billion earmarked for buyouts at the start of 2014. But PE
?rms faced stiff competition for assets that came up for sale, and record-high valuations they were obliged
to pay left little room for GPs to hit their targeted returns.
• Buyout-fund returns increased through the ?rst half of 2014, boosted both by the pro?table sales of many
assets as well as by the higher mark-to-market valuations of unsold assets in PE portfolios. However, buyout
funds have underperformed the recent strong run-ups in the public equity markets. Only over longer 10- and
15-year investment horizons has PE outperformed public equities.
• PE’s performance edge vs. public market benchmarks has narrowed considerably for more recent vintage
funds. It remains to be seen whether the returns of funds from more recent vintages will accelerate as they
mature and realize more of their gains through exits rather than through mark-to-market revaluations. But
currently, only the top-quartile buyout funds continue to enjoy a sizable performance lead over the public
market benchmarks.
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Page 23
2. What’s happening now: Dynamics that will shape PE in
2015 and beyond
Viewed from the safe shores of 2015, it is easy to forget how dire the prospects for the PE industry looked seven
tumultuous years ago as investors stared into the abyss of an imploding economy. The global ?nancial crisis
brought a screeching halt to the PE boom years—the unprecedented three-year run from 2005 to 2007 that
was characterized by mega-buyouts at record-high prices and sky-high multiples of EBITDA. The boom-year
deals were not only bigger, they also were more heavily leveraged. When the downturn hit, the industry was
primed for the calamitous fall that ensued, and few observers at the time expected anything less than widespread
disruption for nearly all PE funds’ portfolio companies and defaults for many.
How differently events have turned out. Successive years of near-zero interest rates and favorable credit conditions
enabled PE borrowers to re?nance their debt. Strong public equity market gains lifted the value of marked-down
PE assets. Robust corporate pro?ts and accommodating IPO conditions paved the way for pro?table exits. And
with waves of distributions resulting from pro?table portfolio realizations ?owing their way over the past few
years, LPs have restored their con?dence in PE and increased their capacity to commit to new PE funds.
Where does that leave PE today? Clearly, when well-founded expectations of an industry in trouble are so strongly
at odds with the ultimate reality of renewed vigor and health, there must be forces at work that have yet to receive
their full due. In this section, we highlight four forces that have exerted increasing in?uence over PE in recent
years and will likely weigh heavily in the industry’s evolution in ways that every PE investor will need to be aware
of in 2015 and beyond.
The ?rst of these is the vast global expansion of investors’ balance sheets, leading to capital superabundance and
total ?nancial assets of more than 10 times global real GDP. Totaling some $600 trillion in 2010, ?nancial assets
will increase by another 50% by the end of the decade, according to Bain’s Macro Trends Group projections
(se Figure 2.1). We will explain the role that capital superabundance played in boosting PE’s recovery following
the recession and how the continued swelling of ?nancial assets threatens to distort PE investment decisions and
magnify risks in the period ahead.
Next, we consider the challenge posed by “shadow capital” in the hands of LPs, the role it is playing in PE deal
making and how it is altering the characteristics and economics of the LP-GP relationship. Shadow capital is
enabling LPs to tailor PE investment programs to match their unique preferences—often looking to GPs with
whom they partner to provide active asset management, other times investing alongside GPs as co-sponsors and
occasionally investing independently of, and potentially in competition with, them.
We then size up the opportunities that PE ?rms will ?nd as they refocus on the US, the industry’s biggest and
most mature market. Currently, a rare oasis of improved GDP growth in an otherwise struggling global economy,
the US economy is bene?ting from unique sources of strength in its consumer, energy and technology sectors
that could provide a solid foundation for sustained expansion. But as we will see, the US is also PE’s most
competitive and expensive market for ?nding attractive investment opportunities. For PE ?rms to thrive on
American soil in coming years, they will require exceptional value-creation skills.
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Finally, we take up the challenges that LPs face today in identifying the most successful GPs to invest behind.
PE fund returns have become more compressed than ever before, the steady outperformance of leading PE
?rms is less consistent than in the past and longer holding periods are making it harder for LPs to rely on the
performance of a GP’s current fund as a guide for determining whether or not to commit to the ?rm’s next one.
The constellation of issues in?uencing PE at this crucial juncture in the industry’s development will exert its pull
throughout the year ahead and likely for years to come.
For better and worse, capital superabundance is here to stay
PE’s impressive rebound from the downturn subsequent to the 2008 global ?nancial crisis—along with the
factors that created the buyout boom and brought PE to the precipice in the ?rst place—has been a manifestation
of the enormous expansion of ?nancial assets that have been building up in the global economy for more than
25 years. The con?uence of several powerful trends, this capital superabundance is the product of ?nancial
engineering, high-speed computing and a loosening of ?nancial services regulations that supplanted the post–
World War II ?xed exchange-rate system with a system allowing rapid expansion of capital around the globe. The
resulting growth of ?nancial assets has been prodigious and relentless: Global ?nancial capital increased 53%
from 2000 to 2010, reaching some $600 trillion, and Bain’s Macro Trends Group projects that it will swell by
half again, to approximately $900 trillion, by year-end 2020.
The power of capital superabundance has roiled markets everywhere over the past two decades: It figured
prominently in emerging Asia’s growth and subsequent ?nancial crisis in the late 1990s. It helped in?ate the
Figure 2.1: The rapid growth of ?nancial capital has shaped the global economy—and PE—since the 1990s
Note: All figures are in real 2010 US dollars at 2010 exchange rates
Sources: International Monetary Fund, World Economic Outlook: Slowing Growth, Rising Risks, September 2011; Organisation for Economic Co-operation and Development;
national statistics; Bain Macro Trends Group analysis
Total world financial assets
0
200
400
600
800
$1,000T
1990
221
Growth
78%
172
2000
393
Growth
53%
207
2010
600
Growth
50%
300
2020
projected
900
Global Private Equity Report 2015 | Bain & Company, Inc.
Page 25
tech bubble in the US that evaporated in the subsequent crash that wiped out $5 trillion in market value. It
expanded the US housing bubble that peaked in 2006. And it played a lead role in PE ?rms’ ability to mobilize
large pools of capital, fueling the buyout boom years between 2005 and 2007.
As it approached a cyclical peak, global buyout deal value spiked from $293 billion in 2005 to $687 billion and
$673 billion in 2006 and 2007, respectively. Headline-grabbing mega-buyouts that exceeded $10 billion led deal
making at the apex of the expansion. Often takeovers of large publicly traded corporations, mega-deals accounted
for more than one-quarter of the boom-year totals in terms of value. PE buyers were willing to pay high prices
to win intensely competitive auctions, as average deal multiples climbed to 9.7 times EBITDA on US and European
leveraged buyouts in 2007. Lots of readily available debt capital helped pay for the takeovers, as buyers in the US
and Europe ?nanced leveraged buyouts using an average of 6.1 times EBITDA for their deals. But instead of
being set up for the success they worked so hard and paid so dearly to pursue, PE funds quickly discovered they
were poised for disaster when they were blindsided by the 2008 ?nancial crash.
How capital superabundance helped rescue PE following the downturn. As they surveyed the wreckage of the
global market meltdown and took stock of what lay ahead, PE investors found little cause for optimism. A trio of
formidable challenges loomed: massive asset write-downs mandated by mark-to-market accounting regulations,
seemingly impassable roadblocks at every exit channel and a towering wall of portfolio company debt re?nancings
needed to avoid defaults.
Each threat was potentially an existential one, and mega-buyout funds—those greater than $4.5 billion—were the
hardest hit. Write-downs on these big funds stripped an average 22% off their assets’ book value in the fourth
quarter of 2008 alone. Meanwhile, interest rates on the high-yield bonds and leveraged loans issued to ?nance
the purchase of these suddenly depreciated assets rocketed toward 20% and triggered covenants on some of
that debt. Any hope that GPs of these funds may have held for a pro?table exit from their beaten-down assets
dwindled away.
In the end, none of these challenges led to the industry’s downfall, thanks to the heretofore underappreciated
role of superabundant capital. Central bank programs unleashed a ?ood of liquidity that quickly brought rates
on high-yield bonds and leveraged loans back to prerecession levels. By July 2009, average rates on leveraged
loans fell to 8.4%—a drop of nearly 12 percentage points from their peak just seven months prior and about
where they had been before the crash. High-yield bond rates, which topped out at 22% in December 2008,
dropped by nearly half, to 11.5%, by August 2009. With debt investors desperately scouring for yield wherever
they could ?nd it, rates on leveraged loans and high-yield bonds issued by PE borrowers kept falling—to just
5.4% and 6.8%, respectively, by the end of 2014 (se Figure 2.2).
The benign interest-rate environment worked wonders in razing the wall of re?nancings that PE borrowers faced.
From where they stood at the beginning of 2009, when rates were near their peak and showed little likelihood
of coming down anytime soon, GPs were looking at the prospect of having to roll over ever-steeper amounts of
maturing high-yield bonds and leveraged loans through year-end 2014—if creditors were still willing to lend,
of course. Obliged to replace $13 billion in maturing US leveraged loans in 2010, GPs would face a daunting
sixteenfold increase in loans coming due in 2014, totaling some $513 billion over the ?ve-year period. Scaling that
steep wall of debt refinancings would have been painful for most PE portfolio companies and perhaps
ruinous for many.
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Page 26
Eager lenders and accommodating debt markets spared them that fate. As business conditions began to stabilize
by mid-2009 and creditors regained con?dence that the threat of widespread portfolio company defaults was
retreating, creditors’ hunger for yields outstripped their worries of default risk. By 2012, borrowers had managed
to level the wall of re?nancing down to a small fraction of its original size (se Figure 2.3). Rather than having
to worry about a potential credit crunch as they struggled to restructure debt, PE funds were buoyed by a ?ood
of liquidity.
Capital superabundance also quickly helped revive the valuations of PE funds’ portfolio holdings by lifting public
equity prices. As buyout-fund GPs revalued their portfolios to re?ect stock market gains, net asset valuations climbed
nearly every quarter since the ?nancial crisis hit with the brief exception of the third quarter of 2011, when Europe’s
sovereign debt crisis ignited fears that the eurozone would slide back into recession (se Figure 2.4).
With rising valuations powered by broad market beta, worries of massive PE defaults soon subsided. Examining
337 companies owned by the 14 largest PE sponsors, Moody’s, the credit-rating agency, discovered that the
annualized 6% default rate between 2008 and 2013 of the PE-backed companies in the sample was a shade lower
than that of similarly rated companies that were not in PE hands.
The period following the downturn had its share of notable multibillion-dollar PE defaults. However, failures had
little to do with the size of the portfolio company or how much leverage the buyout fund GPs used to ?nance it.
The chief reason for many of the PE defaults associated with the ?nancial crisis was the fact that the companies
that stumbled were not well positioned for success from the start. The downturn did not cause these deals to fail;
it merely hastened their downfall.
Figure 2.2: The rapid drop in interest rates since 2009 and yield-hungry creditors helped portfolio
companies skirt default
Sources: Merrill Lynch; PIMCO; Bloomberg; S&P Capital IQ
5-year US Treasuries
Emerging market bonds
10-year US government bonds
Leveraged loans
Investment-grade bonds
High-yield bonds
Jan
04
Jul
04
Jan
05
Jul
05
Jul
06
Jan
06
Jan
07
Jul
07
Jan
08
Jul
08
Jan
09
Jul
09
Jan
10
Jul
10
Jan
11
Jul
11
Jan
12
Jul
12
Jan
13
Jul
13
Jan
14
Jul
14
Dec
14
0
10
15
20
25%
5
Yield
Global Private Equity Report 2015 | Bain & Company, Inc.
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Figure 2.3: The “wall of re?nancing” worries that once looked insurmountable have been overcome
Figure 2.4: Steadily increasing asset valuations have boosted PE buyout portfolios since the ?nancial crisis
Source: S&P Capital IQ LCD
Heading into 2009, PE portfolio companies faced massive debt
repayments and the threat of widespread defaults . . .
. . . but through repayments and refinancings,
they quickly brought debt under control
0
100
200
$300M
US leveraged loan maturities by year
(as of December 31, 2008)
2010
13
11
29
12
76
13
173
14
221
15
55
0
100
200
300
400
$500M
US leveraged loans set to mature
between 2012 and 2014
Dec 31, 2008
2012
2013
2014
Dec 31, 2010 Aug 10, 2012 As of
Source: Preqin
Change in NAV from previous quarter (global buyout funds, weighted)
–20
–10
0
10%
Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2
2008 2009 2010 2011 2012 2013 2014
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The experience of the past several years con?rms patterns about deal success and failure that Bain & Company
has seen developing for a long time. Bain has been co-investing alongside clients in deals for more than 20 years.
Combing through this extensive set of deals with which Bain is intimately familiar, we have identi?ed a set of
winning factors that correlate with deal success. Winning factors include characteristics such as a high market
growth rate for the relevant sector in which a target company competes and opportunities to expand into an
obvious product or geographic adjacency. Bain has found few deals that achieved unambiguous success in the
absence of at least one winning factor—and the more of these factors there are, the more potential ways for a
deal to win. Bain has also documented several “warning beacons” that are highly likely to undermine a deal’s
success, even if only one is present. One such indicator of trouble is to underestimate the impact of competitive
challenges that disrupt a target company’s business model. That is what scuttled Apollo Global Management’s
$1.3 billion buyout of Linens ‘n Things in 2006. The big-box housewares chain failed to adjust to the rapid shift in
consumer spending to e-commerce and away from brick-and-mortar stores, leading the company to file for
bankruptcy in 2008.
Ultimately, buyouts from the boom years preceding the market crash fell into three distinct groups. The obvious
winners were deals that had one or more winning factors and no warning beacons; barring unforeseen shocks,
such as terrorism or natural disasters, these assets were highly likely to be successful from the outset. Clear losers
lacked winning factors and had at least one glaring warning beacon; they were unlikely to succeed, irrespective
of business-cycle or ?nancial market conditions. The third category of deals had characteristics that made them
neither especially good nor particularly bad, and this group bene?ted most from the helpful effects of capital
superabundance. Bought for high prices at the cyclical peak, these companies could easily have tipped into losing
territory had it not been for the surge of market beta that ultimately bailed them out.
PE funds husbanded their buyout assets through the downturn and rode a wave of market beta to successful exits
that, while taking longer than the three- to ?ve-year holding periods envisioned at their time of purchase, were
unanticipated just a few bleak years before. As public markets recovered, the door for IPOs reopened and the
con?dence of strategic corporate buyers rebounded. The overhang of exits from boom-year holdings gradually
began to recede. By the middle of 2014, PE funds had at least partially realized gains from the vast majority of
buyouts they had made during the boom years (se Figure 2.5). The small numbers of unrealized investments
made in 2008 or earlier that still populate their portfolios are not in great shape. Fewer than half of these deals
are valued at more than the original equity invested (se Figure 2.6). But even in the best of times, there are
losing deals in PE.
How capital superabundance could burn PE investors going forward. The continued expansion of ?nancial
assets looks to be an enduring feature of the investment environment that PE ?rms will need to reckon with for
a long time to come. However, the force that they exerted to propel the PE industry to new heights since the
downturn will not be tugging so favorably in PE investors’ direction as the current expansion ages—or as future
ones unfold.
In fact, the very forces that rescued the boom-year investments—record low interest rates and plentiful capital—
are magnifying two issues that are making it more challenging for GPs to pro?t from investments they make
today. First, asset prices are and will remain high as investors of all types wielding record amounts of capital,
including GPs sitting atop mountains of dry powder, are willing to bid up acquisition multiples to acquire assets.
The plentiful low-cost debt thanks to capital superabundance in the hands of yield-hungry creditors merely adds
upward pressure on prices and ensures they will stay high.
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Figure 2.5: Wide-open exit channels enabled buyout funds to escape the shadow of the exit overhang
Notes: Includes deals made globally by buyout funds between 2000 and 2013; data as of Q2 2014
Source: Cambridge Associates
Percentage of deals invested in (by count)
Fully realized deals Partially realized deals Unrealized deals
0
20
40
60
80
100%
04 05 06 07 08 09 10 11 12 13
Year of deal investment
Pre-2004
Figure 2.6: There are plenty of unrealized gains still locked up in PE portfolios, particularly from recent
years’ investments
Notes: Includes unrealized deals made globally by buyout funds between 2000 and 2013; data as of Q2 2014
Source: Cambridge Associates
Percentage of unrealized deals (by count)
Write-off <1X 1–2X 2–3X 3–5X >5X
0
20
40
60
80
100%
2006 2007 2008 2009 2010 2011 2012 2013
Year of deal investment
2004
&
2005
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The second area where capital superabundance pinches is the longer holding periods that will be needed to prepare
fully priced assets for exits that can command decent returns. With GDP growth slower nearly everywhere and
further beta-driven multiple expansion from the public equity markets limited, the era of three-year holding
periods is not likely to come back. PE funds have little incentive to sell an asset until they have at least doubled
the equity they invested. Thus, simple mathematics suggest that holding periods of ?ve years or more look to be
the new norm; it takes at least that long to achieve a twofold return on invested capital at IRRs trending toward
the mid-teens that we are currently seeing prospective acquirers use as their underwriting target.
Further complicating the superheated PE investment climate at a time of capital superabundance is the increased
likelihood that the deals GPs undertake today will experience a turn in the business cycle during their hold period.
Nearly six years have passed since the US economy hit the bottom of the last recession (se Figure 2.7). Given
an expected ?ve-year holding period for a majority of assets, GPs contemplating an investment should consider
that they may need to ride out a downturn that could persist for a year or more. There is no guarantee that the
monetary and ?scal medicines that worked in the last downturn will be as effective next time around.
Getting right with capital superabundance: A GP’s guide
Since the ?nancial crisis hit in late 2007, the big role played by the global expansion of ?nancial assets has cut in
important—but opposite—directions. In the immediate aftermath of the downturn, superabundant capital helped
keep interest rates low, which aided PE funds as they restructured their debt and surmounted the wall of re?nancing.
Figure 2.7: With holding periods stretching out to ?ve years or longer, GPs must weigh future recession risks
Note: Current expansion period is still in progress
Sources: National Bureau of Economic Research; Bain analysis
Length of US expansion and recession periods (in months)
–50
0
50
100
150
27
–13
21
50
–13
80
–8
37
–11
45
–10
39
–8
24
–10
106
–11
36
–16
58
–6
12
–16
92
–8
120
–8
73
–18
68
J
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l
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Valuations recovered as plentiful capital pushed asset prices higher on a swell of market beta. Now, however,
capital superabundance and low-cost leverage have pushed asset prices to new heights, extending holding periods
and stripping away the opportunities for GPs to expect market beta to boost returns.
The lesson successful GPs are drawing from this pattern of “same causes–different results” is that capital
superabundance is here to stay and they can no longer rely on beta to do the heavy lifting. Instead of waiting for
beta to do their work for them, they are stacking the odds in their own favor. Leading GPs are stepping up their
due diligence to ensure that they can identify the winning factors in a target company that can become the basis
for a value-creation plan that can withstand any economic or market climate. Bain research has found that for
companies acquired in deals where the acquisition price was high, the presence of more than one winning factor
was critical to their ultimate success. Indeed, in transactions where the price paid exceeded 10 times EBITDA,
Bain analysis found that the winners had an average of more than three winning factors.
Although GPs face a tough challenge, they can ?nd much to emulate in the experience of Hellman & Friedman, a
leading San Francisco–based buyout ?rm, and JMI Equity, a growth equity ?rm based in Baltimore. These ?rms
partnered to acquire Kronos in a public-to-private transaction in mid-2007. Paying $1.8 billion—some 17 times
EBITDA—for the business software developer, the partners identi?ed potential for continued growth beyond
Kronos’s core strength in workforce management software deeper into the adjacent area of talent management
that warranted the high price. The GPs backed up their conviction by supporting Kronos’s acquisition, in late 2007,
of Deploy Solutions, a provider of software used in the selection and hiring of job candidates. The move enabled
Kronos to broaden its portfolio of services and gain access to Deploy Solutions’s high-pro?le client base. By May
2014, Kronos became the ?rst vendor in its ?eld to surpass $1 billion in revenue. At the same time, its PE owners
recapitalized the business through a $750 million equity investment by Blackstone Group and GIC, the Singaporean
sovereign wealth fund, and arranged for Kronos to use part of the proceeds to pay Hellman & Friedman and JMI
Equity a special dividend. This transaction, combined with earlier dividend payments, has netted investors
more than ?ve times their initial equity investment. Today Kronos has an enterprise value of $4.5 billion, and
Hellman & Friedman and JMI Equity still own a majority stake in the company.
The power of capital superabundance over the fate of PE ?rms’ success reinforces the importance of exercising
due diligence that can quickly spot winning factors and warning beacons and having the capability to execute a
repeatable value-creation plan that can transform assets into top performers over and over again.
Shadow capital looms over PE
Institutional investors have been spreading their wings in recent years, experimenting with new ways to participate
in PE deals beyond the conventional constraints of being passive partners in PE funds. It’s a development that is
generating a lot of buzz in the PE community—and raising a host of sensitive issues for GPs. At the heart of the
discussion is the emergence of so-called “shadow capital”—the vast sums of money that institutional investors are
putting to work in new ways apart from their traditional role as limited partners in a PE fund—and the potentially
large part it will play in the evolving GP-LP relationship in the future.
Shadow capital is not a new phenomenon. LPs have been passively co-investing alongside GPs in deals for
years. But its gradual buildup over the past decade has gained momentum during the current PE cycle, and
now in a wider variety of forms, it is beginning to reshape the industry. Across all regions of the globe, several
leading endowments, public pension systems and sovereign wealth funds have stepped up their PE holdings
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as a percentage of total assets under management, from a weighted average of 6% in 2006 to 12%, according
to the most recent data available (se Figure 2.8). Many have had to look beyond the traditional limits of
investing in a PE fund in order to satisfy their bigger appetites for PE.
Shadow capital’s allure lies in the myriad ways it serves the long-term interests of LPs and GPs alike. For LPs, investing
outside of the conventional PE fund structure improves their prospects for boosting returns at lower costs. A recent
survey by Preqin, the PE data provider, found that 85% of LPs have realized bigger gains on their co-investments than
on their fund portfolios. Investing shadow capital also gives LPs greater control over where they put their money
to work. They are better able to time the market or gain greater exposure to speci?c industries and geographies they
like. LPs investing actively alongside GPs have opportunities to develop closer relationships with them and to gain a deeper
understanding of their operating style and strengths. It also enables LPs to develop their own internal capabilities, gain
experience in direct investment disciplines and acquire valuable knowledge about industries to which they may not
otherwise have access. With all of these positives to recommend it, it is little surprise that LPs expect shadow capital
to play an increasingly prominent role in their future investment plans (se Figure 2.9).
There is also a lot for GPs to like about how shadow capital investments complement their traditional relationships
with LPs. In a tough fund-raising environment, GPs can offer the opportunity to co-invest as a sweetener to
encourage a current LP to re-enlist in a new fund, sign on earlier or commit larger amounts. They can also use
co-investment as a lure to entice new LPs to make a ?rst-time commitment to their funds. The large checks they
accept to establish separate accounts deepen both GPs’ assets under management and their relationships with LPs.
Accepting shadow capital from LPs enables GPs to take on bigger deals without having to form hard-to-manage
syndicates with other PE ?rms that have fallen out of favor.
Despite the undeniable bene?ts that it offers both LPs and GPs, shadow capital also has the potential to shake up
the PE industry. To begin with, shadow capital injects even more money into the already saturated deal market,
increasing competitive intensity. The focus of much discussion today is the risk that more and more shadow
capital will end up competing directly against GPs for deals—disintermediating PE ?rms by making investments
that bypass them entirely. Yet, as we will discuss, a more likely outcome is shadow capital’s potential to chip
away at the PE industry’s economics at the margins.
LPs are exploring four principal alternatives for deploying shadow capital that run along a spectrum from
investments they depend on GPs to actively manage for them to those where they exercise greater independence.
Separate accounts. As they look for ef?cient ways to rationalize their PE exposure while managing larger investment
portfolios, sophisticated LPs are turning to PE ?rms for help. They are increasingly entrusting ?rms to oversee the
investment of additional assets held in customized accounts that have been set up on their behalf. According to
a survey by Preqin, 18% of LP respondents reported that they actively invest in PE via separate accounts. Another
25% of those surveyed expressed interest in moving in this direction. Altogether, GPs have raised some $128 billion
through more than 400 separate accounts over the past ?ve years, still a relatively small total compared with the
more than $2 trillion raised in PE funds over the same time period.
Rather than competing with GPs in their role as PE fund specialists, separate accounts enlarge their responsibility
to that of a more general asset manager. Under typical terms of the arrangement, the PE ?rm is able to tap money
it manages in these accounts to invest in buyouts or other predetermined PE categories as opportunities arise.
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Figure 2.8: Growing demand for PE has LPs looking at all options for putting capital to work in the asset class
Percentage of net assets invested in PE
2006 Most recent data available
Notes: Most recent reported data is from 2013 to 2015; Yale’s most recent data is its target for 2015, not actual; CPPIB includes all private equities (vs. public equities); 2006 data
for GIC is unavailable, so 2008 data is shown instead; GIC percentage includes PE, venture capital and infrastructure
Sources: Annual reports; Sovereign Wealth Fund Institute
0
5
10
15
20
25
30
35%
Yale WSIB CalSTRS CalPERS TRS CPPIB OMERS CDPQ OTPP ATP ABP Första
AP-fonden
GIC NPS
(Korea)
Most recent
weighted average
2006 weighted
average
US Canada Asia-Pacific Europe
Figure 2.9: LPs expect shadow capital to play a bigger role in their portfolios over the next ?ve years
Proportion of LPs’ PE exposure that is or will be through co-investment or direct investments
Source: Coller Capital, Global Private Equity Barometer, Winter 2014–15
0
20
40
60
80
100%
Now
0–9%
10–24%
25–49%
50–74%
75–100%
In 5 years
0–9%
10–24%
25–49%
50–74%
75–100%
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LPs and GPs have tailored some large and interesting relationships around separate accounts in recent years. For
example, the Teacher Retirement System of Texas (TRS) partnered in 2011 with Kohlberg Kravis Roberts (KKR)
and Apollo Global Management to set up a separate $3 billion account with each that aims to steer TRS’s capital
into buyouts, real estate and debt investments. In 2012, CalPERS, the pension plan covering California state
workers, placed $500 million in a Blackstone Tactical Opportunities account with a ?exible mandate to invest
across a wide range of asset classes. In Europe, Germany’s largest pension fund, Bayerische Versorgungskammer
(BVK), cemented its seven-year relationship with the UK-based PE ?rm Pantheon last year: The fund, which invests
on behalf of public-sector employees in the state of Bavaria, set up a €500 million dedicated account that will seek
out, among other things, buyout, growth and venture capital investment opportunities. This arrangement, which
will extend to 2017, will allow BVK to consolidate its holdings around a select core group of asset managers.
But for all of their many bene?ts to GPs, separately managed accounts present some risks. To attract that new
money, GPs are discounting the prices they charge for their services, reducing fees and carry from the standard
“two and twenty.” For many GPs, the trade-off of lower fees in exchange for a larger, steadier volume of assets
under management can look appealing, but accepting it can put GPs in a bind. By charging less, GPs can justify
holding assets longer and settling for lower returns, but if they fall too far short, they risk jeopardizing their
relationships with LPs. There is also potentially a price to pay for success. GPs that deliver performance in
discounted, separate accounts that meet or beat the returns they generate in standard funds risk cannibalizing
their premium-priced products. Why pay full price when there is little or no difference in results?
Co-investments. Accounting for roughly 10% of PE assets under management, co-investing is currently the most
common way for LPs to put shadow capital to work. Co-investing appeals to LPs that want to exercise more discretion
over where and how their money is deployed, without requiring the deal sourcing, due diligence and portfolio
management skills that a seasoned GP would be expected to possess. They also like the no-fee or lower-fee structure
that co-investing offers.
Increasingly, when GPs approach LPs to get them to sign on to a new fund, LPs are making the opportunity to
participate as co-investors a condition of their agreement. In a typical arrangement, a GP pitches opportunities
to LPs to put up money on a deal-by-deal basis. Co-investors can choose to actively select the deals in which they
will participate or simply agree to join forces with the PE ?rm in all of its deals. When it comes to selecting the
investment target or actually managing assets after they are acquired, however, the co-investor’s role remains a
passive one: It is the PE ?rm functioning as a conventional GP that sits in the driver’s seat.
Co-investing has attracted increased attention in recent years as LPs have gained con?dence in the higher returns
it can yield. As recently as 2012, of the LPs that Preqin interviewed, only 13% believed that returns from co-investment
were signi?cantly better than those of a typical PE fund. In Preqin’s latest round of interviews in March 2014, 52%
of LPs reported that their co-investment returns were far higher than the returns their funds generated and none
said that they were lower. With that proven track record, 77% of the LPs said they are now co-investing and more
than half said they planned to do more of it in the future (se Figure 2.10).
With experiences like that, it is easy to understand why co-investing has gained popularity. But as promising as
it looks, co-investing programs have dif?culty accommodating everyone’s goals. For their part, GPs cannot make
co-investment an option available on every deal or for every LP. To keep the trust of their LPs, they must set
transparent and clear rules for offering co-investment opportunities, but that is dif?cult to do since co-investment
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may not be practical for some deals. Co-investing today is full of gray areas in terms of the promises GPs are
prepared to make to LPs. Many are willing to offer it, but the speci?cs for how or under what circumstances they
will be able to follow through are not fully ?eshed out.
As for LPs, many that are drawn to the idea of co-investing as a good way to proceed lack capabilities needed to
process what GPs are offering and end up taking a pass. Sometimes the pro rata allocation in the co-investment
opportunity may simply be too small to warrant their participation. Other times, LPs need to be able to react to an
offer more quickly than their investment committee cycles permit. Still, co-investment seems to be here to stay,
because it is yet another way to align the interests of GPs and LPs, even though this application of shadow capital,
too, lowers prices and dilutes GPs’ economics.
Co-sponsorships. A transition to more active investing, co-sponsorships enable institutional investors to put
capital to work directly in businesses as equal partners with PE ?rms. In much the same way that PE ?rms
joined forces in club deals prior to the 2008 ?nancial crisis, large, independent-minded institutional investors
with an appetite for more direct participation in PE deal making are partnering with GPs to co-sponsor deals
of all types and sizes.
Recent co-sponsored transactions illustrate the range and breadth of this trend. In May 2014, for example,
Ontario Teachers’ Pension Plan, the large Canadian pension fund, teamed up with PE ?rms AEA Investors and
Fitness Capital Partners to acquire 24 Hour Fitness, a US-based chain of health clubs, from Forstmann Little.
Last June, Temasek, also a Singapore-based investment fund, co-sponsored a Warburg Pincus–led acquisition of
50% of Santander Group’s custody business in Spain, Brazil and Mexico.
Figure 2.10: LPs’ search for better net returns has buoyed their interest in co-investing
77% of LPs surveyed are
already co-investing
87% of LPs plan to maintain
or increase co-investments
85% of LPs believe co-investment
returns are higher
Source: Preqin, “The State of Co-Investments,” Private Equity Spotlight, March 2014
Percentage of LPs Percentage of LPs Percentage of LPs
0
20
40
60
80
100%
LPs’ current level of
co-investment activity
LPs’ perception of co-investment
performance compared with that
of fund investments
LPs’ future plans for
co-investment activity
Considering
co-investing in
the future
Opportunistically
co-investing
Actively
co-investing
No plans to co-invest
0 0
20
40
60
80
100%
Significantly
better returns
Slightly better returns
Similar returns
20
40
60
80
100%
Increase
Maintain
Uncertain
Decrease
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Rather than a rivalry, co-sponsored investments that pair GPs and LPs can be a mutually bene?cial division of
labor, serving both parties’ interests. GPs gain access to deep pools of cash from sophisticated investors. A deep-
pocketed pension fund or a sovereign wealth fund willing to put serious money behind an asset purchase can
add the critical capital to make it possible for a PE fund to win a hotly contested auction. The LP partner gets to
leverage, and also learn from, the expert guidance of a GP partner seasoned in the disciplines of PE due diligence,
negotiation and post-acquisition value creation. Many institutional investors that participate in co-sponsorships
are using the experience to develop their own in-house PE deal-making capabilities.
As crucial as an LP’s capital can be to making an acquisition possible, co-sponsorship is still limited to a relatively
small number of institutions that have the scale and capabilities to take the leap into more active investing.
Co-sponsorships between GPs and LPs during the period between 2009 and 2014 accounted for less than 15%
of all deals with a price tag of more than $1 billion (se Figure 2.1). About 60% of these co-sponsorship deals
involved just four institutional investors.
As the GP typically takes the clear lead managing the co-sponsored asset post acquisition, this new type of club
investing is better positioned to create value than were the often rancorous GP-only consortium deals of the
recent past. But it is still far too early to determine how well co-sponsorships will work out. Just how good the
returns are will largely depend on the types of deals the co-sponsors do.
Solo direct investments. The shadow capital that is most apt to cause GPs to lose sleep is the money in the hands
of big LPs investing entirely on their own, independent of PE ?rms and potentially in direct competition with them.
Figure 2.1: Co-sponsorship is the leading form of LPs’ direct investment, particularly for larger deals
Notes: Includes deals with disclosed value; excludes real estate and infrastructure, PIPEs and add-on transactions
Sources: Preqin; Bain analysis
Percentage of buyout deals with disclosed values of $1 billion or more (2009–2014)
0
20
40
60
80
100%
By deal value
No LP involvement
Co-sponsors
By deal count
No LP involvement
Co-sponsors
LPs involved
CPPIB
GIC
Temasek
OTPP
CIC
OMERS
PSP
Other direct LPs
Direct (no GP) Direct (no GP)
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Looking just at the vast resources the biggest institutional investors and sovereign wealth funds can mobilize, it
is easy to understand GPs’ concerns. Bain & Company estimates that there may be no more than 100 institutional
investors—less than 2% of the overall LP base for PE—that have the heft and the ability to mount direct investment
programs, but they command considerable resources. Among leading organizations that have demonstrated an
interest in direct investing are big pension funds in Canada and sovereign wealth funds across the Middle East
and Asia (se Figure 2.12). Yet, while it is evident that these and other LPs’ interest in solo direct investing is
growing, the competitive threat this presents to GPs is limited.
There are real risks and challenges that any LP contemplating a direct investment program needs to reckon
with. To begin with, they need to recreate all of the capabilities and processes a PE firm possesses—from
sourcing their own deals and conducting rigorous due diligence to leading robust post-acquisition value-
creation plans and managing successful exits. Developing these skills, much less matching the experience that
world-class PE ?rms have attained over years in applying them, takes time and dedication. Above all, it takes
top talent to generate the returns that direct investing LPs aim for—even when they set their underwriting
target return at a relatively modest level of, say, 15%. LPs that go solo may be able to lure talented investors with
the attractions of a more sustainable lifestyle and perhaps an attractive location. However, they face challenges
holding onto star PE investment professionals because the compensation they offer does not match what
their GP competitors pay. Finally, direct investing offers less diversi?cation than committing capital to several
PE funds and far more accountability if a direct investment does not pan out, with no GPs to blame for
unsatisfactory results.
Figure 2.12: Big Canadian pension funds and SWFs dominate among LPs with direct-investment capabilities
Notes: This is not an exhaustive list; values are assets under management in US dollars based on Preqin data as of January 2015; SWF stands for sovereign wealth fund
Source: Preqin
OMERS
$55B AUM
Ontario
Teachers’
Pension Plan
$118B AUM
CPP
Investment
Board
$226B AUM
QIC
$60B AUM
Qatar
Investment
Authority
$170B AUM
Mubadala
$61B AUM
China
Investment
Corporation
$650B AUM
Korea
Investment
Corporation
$75B AUM
GIC
$320B AUM
Caisse de dépôt
et placement
du Québec
$179B AUM
Sample of direct LPs
Temasek
Holdings
$167B AUM
Alberta
Investment
Management
Corporation
$68B AUM Khazanah
Nasional
Berhad
$38B AUM
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LPs that are currently undertaking direct investment programs recognize the need to proceed with caution. The
evolution of the direct program under development by the Toronto-based Canada Pension Plan Investment
Board (CPPIB) illustrates the deliberate approach these careful investors are taking. CPPIB began investing in PE
in 2001, focusing on building its relationships with GPs as a “preferred investor.” By 2004, its overseers set their
sights on increasing its participation on co-investing and direct investing, primarily as co-sponsors partnering with
fund managers to help them. By 2007, CPPIB created a dedicated “principal investment” (PI) team—an in-house
group to manage its direct investments in PE and natural resources, which then totaled about C$1 billion. Since
2008, CPPIB has aggressively scaled up its direct investment efforts, staf?ng its increasingly expert in-house group
with 35 senior PI professionals and adding of?ces in London, Hong Kong and São Paulo. By the end of last year,
its direct PE portfolio had grown to 31 investments valued at C$11.6 billion, or 59% of its PI program. Despite
opportunistically taking the lead role in transactions, however, CPPIB continues to execute direct investments
primarily through co-sponsorships.
The caution practiced by LPs investing directly on their own is also evident in the types and sizes of deals they
have made to date. The LPs have concentrated their investments in four areas. First, they are cutting their teeth on
smaller deals, seldom exceeding $1 billion, and tilting toward growth investments, minority stakes or private
investments in public equities rather than buyouts. Second, they have been inclined to target low-risk investments
in stable companies that have reliable cash ?ows and strong management teams. Third, they favor deals where they
enjoy a home-?eld advantage, using their information edge to partner with local companies, often in pursuit of
regional development programs. Finally, some institutional direct investors, particularly sovereign wealth funds in
Asia and the Middle East, pursue deals that are in?uenced as much by the strategic goals of the sovereign entity
on whose behalf they invest—in such areas as ?nancial services, energy, telecom and infrastructure—as by
?nancial outcomes. Within each of these four core direct investment areas, institutional LPs may enjoy unique
competitive advantages over GPs.
Learning to live in the shadow: Lessons for GPs
The global superabundance of capital—and the in?uence of shadow capital on PE investing to which it has
given rise—are realities that PE firms will need to accommodate for the foreseeable future. Their ongoing
challenge will be to fend off pressure to reduce prices for their services and to ?nd new ways to partner with
LPs, which benefit both parties. Their best defense in this battle will be to mount a great offense—simply
generate high returns. Top-performing GPs will be able to command the prices they deserve and capture the
assets under management they desire. Others will ?nd that these new forms of partnering generally require
them to concede to LPs on price while doing the same work they did in the past. For the bottom performers
that struggle to raise capital, shadow capital offers no salvation. Poor results are not worth having at any price.
For LPs, shadow capital does not substitute for fund investing but augments it. The incentives for both sides
to collaborate rather than compete are powerful. Even as they spread their wings and begin to invest more
independently, LPs need GPs to help them put capital to work and demonstrate the disciplines for success. As
LPs that mount direct investment programs learn from ?rst-hand experience what it takes to succeed as value
creators, they are likely to develop renewed respect for the PE professionals who can generate winning returns
over and over again.
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Refocusing on America
Discriminating PE investors have a long list of attributes they look for when deciding where they will put money to work.
Their preference to invest where legal protections are strong, capital markets are liquid and corporate governance is
transparent has long attracted them to the developed economies of Europe and North America. When the global
?nancial crisis chilled the economies of the West, PE investors’ appetites for novelty, an entrepreneurial culture and vast
growth potential lured them to seek out opportunities in the emerging markets of Asia-Paci?c, Latin America and Africa.
But at a time when political, economic and social uncertainties are running high—as they are in most markets
around the world today—PE investors are re?exively taking steps to reduce their risk exposure. Most European
economies are slumping, as sovereign debt woes, de?ation pressures, currency instability and near-zero GDP growth
threaten to break up the eurozone. China’s growth is highly volatile as it attempts to manage the difficult
transition from the rapid expansion and investment that characterized its boom years to a more balanced
growth model. War, social upheaval and tumbling oil prices have sent economies across Russia, Central Asia and
the Middle East into free fall.
A ?ight to quality has made the US a renewed focus of investors’ interest, with PE investors prominent among
them. In striking contrast to trends elsewhere, macroeconomic signals are ?ashing green across North America.
After years of sluggish recovery since the 2008 recession, US job growth rebounded strongly in 2014. Consumer
con?dence and capital spending are turning up. Unemployment and government budget de?cits shrank, and the
US dollar is trading near its highs against other major currencies. The combination of an already strong dollar
and sustained low in?ation in the US, and the pursuit of expansionary monetary policies by central banks in
Europe, Japan and China, will likely hold any interest rate increases by the Federal Reserve in check. Against that
backdrop, the outlook for credit conditions remains auspicious for ?nancing PE buyouts.
It is not only the customary business cycle indicators that point to a revival of the US economy. Analysis by Bain &
Company’s Macro Trends Group shows four durable sources of growth that could help power the US economic
expansion deep into the rest of this decade and potentially beyond—engines that could help keep the economy
humming for an entire PE buyout cycle. The ?rst is the rebound of the US consumer, particularly middle-income
households that bene?ted from the Fed’s low interest rate policies, which helped rein?ate housing prices, the
principal source of middle-class wealth. Hit hard by the recession, these consumers are opening their wallets again.
The second source of growth is demographics, speci?cally the coming of age of the vast population of younger
adults born after 1980, who are entering their prime household- and family-formation years. Some 81 million
strong, this generation is bigger than the baby boomer generation, with 76 million Americans who have largely
passed their peak earning years or are entering retirement. The third force powering the economy is the juice
provided by the energy sector. Now one of the world’s top oil and natural gas producers, thanks to the shale drilling
revolution, much of the US energy industry can operate pro?tably even at today’s prices. Meanwhile, US energy
consumers will see savings from lower fuel costs ?ow straight into their pockets and to their bottom lines—a spur
to consumption and investment. The ?nal growth factor is the emerging advances in robotics, nanotechnology,
genomics, arti?cial intelligence and ubiquitous connectivity, which are just hitting the new product lines of big
corporations and the radar screens of venture capitalists.
As a new high tide of global capital starts to ?ow to US shores in search of promising opportunities, PE investors
will ?nd a market that is not only deep and welcoming but also mature and intensely competitive. As PE’s home
turf dating back to the leveraged buyout days of the 1980s, the US has long attracted the lion’s share of capital
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raised for buyouts and continues to do so. Over the past decade, money pouring into US-focused buyout
funds has accounted for 56% of the world’s total (se Figure 2.13). Indeed, as buyout fund-raising began to
recover from the depths of the global financial downturn, US-focused funds have seen their share steadily
climb—to 63% of the total in 2014.
The magnet for that capital is the vast pool of sizable companies operating in the world’s most open economy
(se Figure 2.14). The capacity of the US economy to absorb capital is another of its many attractions to
PE investors.
Having exposure to the US market has been crucial for LPs that aspire to build a top-tier PE program. Even as PE
has spread beyond the US and Europe to other regions around the world since the late 1990s, US-oriented buyout
funds have led the elite list of funds, generating a net annual return of 15% or more (se Figure 2.15). Recent
vintage buyout funds targeted at US investments have continued to punch well above their weight. US-focused
funds from the 2007, 2008 and 2009 vintage years made up less than half of their peer global buyout funds
worldwide, but they comprised 70%, 75% and 55%, respectively, of the world’s top-performers within their vintages.
It is little wonder, then, that the US tops the rankings of attractive PE markets in surveys of LPs.
Yet, even with the economic winds expected to be at GPs’ backs in the period ahead, ?nding compelling deal
opportunities at valuations that work and converting them to top-quartile winners will require extraordinary
investment discipline. PE has already penetrated deep into the available pool of companies. Among middle-market
businesses with an enterprise value of between $100 million and $500 million, for example, Bain & Company
found that PE ownership increased from 8% of companies in 2000 to 23% in 2013—nearly one company out of
Figure 2.13: The majority of buyout capital raised globally has been targeted at investments in the US
Notes: Includes buyout funds with a final close; represents year funds held their final close
Source: Preqin
Global buyout capital raised (by primary geographic focus)
US Rest of world
0
20
40
60
80
100%
2005 06 07 08 09 10 11 12 13 14
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Figure 2.14: The US has a deep pool of companies
Notes: Based on FY ’13 revenues; includes public companies and private companies for which revenue data is available
Sources: IMF; Capital IQ; Bain analysis
2013 GDP
Number of companies with annual revenues exceeding $250 million
100
200
500
1,000
2,000
5,000
10,000
$20,000B
10 20 50 100 200 500 1,000 2,000 5,000
Italy
UK
Germany
Poland
Mexico
South Korea
Spain
Japan
Argentina
Egypt
Russia
Turkey
South Africa
Brazil
China
France
Canada
Singapore
Hong Kong Chile
Malaysia
Indonesia
Australia
UAE
India
US
Figure 2.15: The US has generated the majority of the top-performing buyout funds
Note: Excludes funds with multiregion investment focus
Source: Preqin
Count of buyout funds with net IRR greater than 15% (by investment region focus)
US Central and South America Europe Asia-Pacific Middle East and Africa
Percentage
of all buyout
funds that are
US-focused
1992 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09
0
20
40
60
80
100%
73 53 54 51 55 49 50 43 45 47 69 62 63 59 59 60 57 60
Vintage year
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four (se Figure 2.16). The PE penetration rate is lower among companies with an enterprise value of greater
than $500 million, simply because those bigger businesses can more easily tap the public equity and corporate
debt markets for capital and, thus, are less reliant on PE than their mid-market counterparts. Penetration is also
very small among companies valued below $100 million—just 3% of this large group of businesses are in PE’s
hands—because many of these enterprises lack the scale or the growth potential to attract the interest of investors.
If too much capital in the hands of a growing number of PE funds chasing too few good assets is a classic
prescription for in?ated acquisition prices, then the US is ground zero for asset-bidding wars. So thick are the
ranks of prospective buyers that a PE ?rm’s ability to quietly line up a proprietary deal has all but disappeared.
Nearly every company that puts itself up for sale is the object of a hotly contested auction.
More than ever, for successful PE investment in the competitive market for US assets in the years ahead, the
prerequisites will be getting an early edge in the auction process, doing great diligence to home in on winning
deals and determining with con?dence what price to pay. Although the US is PE’s most mature market, it is not
a fully ef?cient one. To test that proposition, CEPRES, a provider of products and services to support PE investment
decisions, undertook an analysis of buyouts completed since the downturn in order to probe just how ef?cient or
inef?cient the US market is. The results show that for any EBITDA multiple a GP may pay for assets, there is a
wide range of outcomes for earnings growth (se Figure 2.17). The conclusion: GPs can still ?nd businesses
with value-creation opportunities that others don’t see—and buy them for less than full price.
The rewards available to PE ?rms that can spot seams of opportunity that enable them to buy growth potential at
a favorable price are evident in Advent International’s 2011 acquisition of Bojangles’, a regional quick-service
restaurant chain based in North Carolina. With a decades-long focus on investing in the retail, consumer and
leisure sectors, Advent drew on its depth of experience and its plugged-in adviser network to quickly size up
Bojangles’ as a likely leader in its category. What its deal team saw in Bojangles’ was a business with a healthy core,
a solid management team, strong franchisees and a loyal customer base. Working with company management,
Advent added new Bojangles’ stores within its existing territory and expanded into adjacent markets and introduced
a wider range of menu options to appeal to its broadening customer base. By 2013, Bojangles’ boasted the fastest
growth rate in its industry and built on that success with sales increasing 7% in 2014. With the quick, ef?cient
execution of its value-creation plan achieved, Advent is readying Bojangles’ for an early-2015 IPO.
Making it in America: Precautions for GPs
As more and more global capital seeks refuge in a resurgent US economy, PE investors will need to be on their
guard against ever-present bubble risk. Asset prices, already high, will likely go higher. Particularly as new
technologies spawn new industries or reshape existing ones, compelling business-growth stories and seductive
investment theses will be plentiful and, more often than not, illusory. As every seasoned GP knows, the supply
of truly great ideas is limited, and few withstand rigorous scrutiny.
A high priority for PE ?rms aiming to invest in the already deeply penetrated and hyper-competitive US market
is the heightened focus they bring to deal sourcing. Bain has worked with leading ?rms that are developing
repeatable sourcing models to separate themselves from the pack of rivals showing up at auctions ready to pay
full price. Some ?rms are seeking contrarian plays on assets that are out of favor but where they see hidden
value. Others are digging into macro themes to anticipate trends the market has yet to spot but avoid chasing
headlines. For instance, news stories in the early part of the decade speculated that millennials were different
from older generations in their housing preferences; they would want to live in cities and not in suburbs. In
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Figure 2.16: PE ownership of US companies has increased over time, particularly among middle-
market businesses
Notes: All values are estimated; calculations are based on data only for companies with more than $10 million in revenues
Sources: PitchBook; Internal Revenue Service; Bain analysis
PE-backed companies as a percentage of all US companies (by enterprise value category)
<$100M $100M–500M >$500M
0
10
20
30%
2000 2005 2010 2013
Enterprise value
Figure 2.17: Even in the mature PE market in the US, investors can still spot good opportunities and
not pay full price
Notes: Includes 845 US buyouts invested in 2009 or later; EBITDA stands for earnings before interest, taxes, depreciation and amortization
Source: CEPRES PE.Analyzer
EBITDA CAGR, post acquisition
Lower-quartile threshold Median Upper-quartile threshold
–10
0
10
20
30
40%
<6X 6–7X 7–8X 8–9X 9–10X >10X
EBITDA purchase price multiple
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fact, millennials are becoming suburbanites, after all, having simply delayed their move due to the recession.
Probing deeper in order to separate insight from conventional wisdom and to understand second- and third-
order consequences of a macro theme can unveil investment opportunities the market may not have, as yet,
fully priced.
Once GPs have honed the investment themes they will pursue and con?rmed that they are aligned with the core
elements of their fund’s investment sweet spot—such as the size of the equity commitment they are prepared to
make, their geographic preferences and the degree of control they will exercise—they develop a list of potential
targets and a plan to approach them.
With the prospects for most buyouts balanced on a razor’s edge between a target company’s high valuation and a precise
calculation of its return potential in any economic climate, fortune will favor only the well prepared. Top-performing
PE ?rms understand that the ultimate returns they achieve will re?ect the “quality of the buy”—how well they size up
the potential of the assets they acquire during sourcing and due diligence and how much they ultimately pay.
New macro risks challenge Europe’s PE investors
Following years of persistent near-zero GDP growth and a steady drumbeat of bad news from the
eurozone, European PE investors could breathe a sigh of relief in 2014. The ?nancial turmoil that
threatened to undermine the euro and plunge the continent’s weaker economies into deep recessions
had abated. Yield spreads on euro-denominated sovereign debt had stabilized and, apart from
Greece, the air of crisis hanging over the smaller eurozone periphery economies had begun to lift.
With the recent Greek elections once again throwing open the heated debate between austerity and
growth, however, it would be a mistake for Europe-focused PE ?rms to confuse a respite with a recovery.
As 2015 began, the European Central Bank (ECB) launched a €1.1 trillion quantitative easing program
in an urgent bid to reignite growth. But banks’ business lending remains weak amid gathering signs
of a recession in the major European economies. Beyond the near-term economic indicators, Bain &
Company’s Macro Trends Group sees powerful structural tensions that threaten to pull the eurozone
apart in the not-too-distant future. Differences in the age structure of eurozone member states’
populations—in particular, in the size of the cohort between the ages of 45 and 60—are an important
but too-little-appreciated source of Europe’s unresolved problems.
The number of these thrifty and highly productive mature households, which are past their biggest
consumption years, is currently near its peak in Germany, where their frugal spending patterns risk
aggravating de?ationary pressures. As Europe’s leading exporter, however, Germany has been able
to ship goods and capital to its younger, more consumption-oriented neighbors on the eurozone
periphery, boosting its GDP and keeping a ?oor under prices—all without having to worry about
exchange rate adjustments to the common currency. The consequences for Germany’s eurozone
trading partners have been profound: In?ation has heated up and their economic competitiveness
has eroded—conditions exacerbated by the ECB’s loose monetary policies.
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By the end of the decade, as Germany’s bulge of 45- to 60-year-olds ease into retirement and begin
to consume their savings (pushing up prices), the periphery countries will see that age cohort swell
(kindling de?ationary tendencies). If the ECB’s monetary policies hike interest rates to keep in?ation in
check in Germany, they will risk worsening de?ation in the periphery countries, which will need a
weaker euro to stimulate demand and to repay their large overhang of sovereign debt. Thus, the
eurozone is poised for another crisis: It remains weakened by years of economic stagnation, increasing
debt burdens, the rise of nationalist parties and a loss of competitiveness and de?ation on the periphery,
on the one hand, and the constraints of the euro pact, on the other. Certainly one scenario every
investor should weigh is a partial breakup of the eurozone toward the end of the decade.
Prudent Europe-focused PE ?rms will use the current interlude between crises as a window of opportunity
and fortify their current holdings against looming macro risks. They will also want to scan the economic
horizon to recalibrate their investment theses over the next PE cycle to identify potential opportunities
to pro?t as the EU restructures.
Storm-proof the portfolio. Vigilant PE funds will use today’s hiatus of relative calm to work through a
long checklist of potential ?nancial and operational vulnerabilities, beginning with shoring up their
portfolio companies’ balance sheets. They will take advantage of the currently favorable debt markets
to lower borrowing costs, lighten covenants or pull equity out of assets that may need more time to
ripen in Europe’s slow-growth environment.
Every EU-based PE fund will also want to comb through its supply chain to evaluate how a potential
euro breakup might impact their input costs. PE funds whose portfolio businesses are net recipients of
euros today should protect themselves against currency risk over the medium and long term. For
example, energy-intensive manufacturers, particularly those operating in the struggling economies on
the eurozone periphery, will want to hedge against a possible rise in energy prices from today’s low
levels and a further drop in the euro–US dollar exchange rate. Likewise, PE owners of luxury goods
businesses or other high value-added product or service providers will want to evaluate how they
might take advantage of a weakening euro by increasing domestically sourced raw materials while
boosting exports to markets outside of the eurozone.
Pressure test new investment theses. Facing the signi?cant risk that the eurozone will need to restructure
within the next few years, any Europe-focused buyout fund looking to deploy new capital needs to add
that scenario to how it sources deals and evaluates potential acquisitions. Independent of the inherent
attractiveness of the asset they are thinking to buy, fund managers will want to weigh the possibility
that a euro crisis could see the temporary reinstatement of barriers that impede the free movement of
capital and in?ate borrowing costs or consider how a return of exchange-rate differentials across
eurozone markets might affect debt repayment costs and operating margins.
As PE funds armed with vast reserves of dry powder scour Europe’s markets for a diminishing supply
of crisis-resistant acquisition opportunities, they will need to be on guard against the risk of investment
bubbles. In France and Germany, for example, where the real estate sector may already be over-
heated, trapped assets present a particular danger.
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Successful PE-fund investors will sharpen their sector focus and deepen their geographic and
industry expertise as they target resilient investments in selective pockets with upside opportunity.
For example, the healthcare sector will expand and diversify to serve Europe’s growing aging
populations. Toward the end of the decade, the substantial pool of retiree savings will present
opportunities in wealth management. In Germany, an increasing population of pensioners will spend
more on leisure activities.
PE funds will also be able to help portfolio companies adapt to the eurozone’s smaller and increasingly
expensive workforces by substituting capital for labor, particularly as sophisticated robotics penetrates
traditional service businesses like food, hospitality and healthcare. Using advanced telecommunications
and information technology to ship services outside of the eurozone presents other opportunities to
invest in businesses that specialize in, for example, remotely performed diagnostic analysis or Web-
based training.
Finally, Europe’s crisis-weakened and gun-shy banking sector presents ?ush PE funds with investment
opportunities to fill a lending gap for capital-starved small and midsize enterprises. Blackstone
Group seized this chance last July, when it prevailed over a consortium led by Oaktree in an auction
to purchase a portfolio of home loans for €3.6 billion from a bailed-out Spanish bank.
With the world’s second-largest economy and a large population of af?uent consumers, the eurozone
has long been a powerful magnet for PE investors. Beset with macro challenges that threaten the heart
of the continent’s decades-long program to broaden and deepen its integration, the eurozone will remain
a risky attraction over the medium term and potentially for years to come. PE ?rms will need all of the
foresight, ?exibility and creativity they can muster in order to survive and thrive in today’s Europe.
It’s getting harder to spot the winners
In sharp contrast to the boilerplate disclaimer that every stock market investment fund is required to make, the
notion that past performance is a reliable indicator of future returns has been a proud hallmark of PE investing
since the industry’s earliest days. For LPs, the task of separating the top-performing GPs from the laggards was
a pretty straightforward business. The best guide for institutional investors selecting GPs to invest behind? Look
at how previous funds fared.
No longer. In today’s world of superabundant capital, the conditions that made it possible for top GPs to cruise
from success to success have washed away in a ?ood of money chasing assets. With so much capital in the hands
of so many GPs, opportunities to quietly ferret out proprietary deals at cheap prices are gone. Record low interest
rates on high-yield debt and covenant-lite loan terms have opened the spigots of leverage to PE borrowers,
broadening the pool of potential buyers. Today, nearly every GP has the means—and incentive—to hire consultants
and other outside advisers to reduce the likelihood of big mistakes.
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The democratizing in?uence of plenty of money in the hands of many has had a leveling effect on PE returns.
Transparent auctions guarantee hot competition for assets, and GPs that prevail in them pay top dollar. The
combination of high acquisition prices and longer hold periods is eroding returns. Meanwhile, slow but steady
economic growth in major developed markets has put a temporary floor beneath the returns of the weaker
PE performers.
The cumulative result of these shifts has been to compress industry returns. As recently as a decade ago, top-
quartile buyout funds generated between $2 and $3 or more for each dollar of capital invested—nearly a full turn
higher than the best of the bottom-quartile funds whose ratio of returns per invested dollar hovered between 1-to-1
and 1.5-to-1 (se Figure 2.18). The picture is very different today. Among recent-vintage funds launched between
2006 and 2010, the gap separating the top-quartile GPs from their bottom-quartile peers has narrowed to less
than 50 cents—$1.54 per dollar invested for the best 2010-vintage buyout funds vs. $1.10 per dollar invested for
the laggards. The extent of the compression that we are seeing in recent vintage funds may be temporary. As these
funds exit investments and realize gains, the gap between the top- and bottom-performing funds could widen
some. Nevertheless, the increasing competitiveness of the markets means that there will be some lasting
compression of returns.
The squeeze on fund performance. The compression in return multiples between the top- and bottom-quartile
funds is mirrored in a narrower distribution of returns overall for recent-vintage funds (se Figure 2.19).
Whereas during the 1990s, when 52% of US focused buyout funds generated returns that clustered between
Figure 2.18: Buyout-fund performance has become compressed for recent fund vintages
Note: TVPI is total value to paid-in ratio
Source: Preqin
Global buyout fund vintage-year benchmark returns (TVPI, as of Q2 2014)
Bottom-quartile threshold Median Top-quartile threshold
0
1
2
3
4X
1990 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10
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zero and 20%, fully 75% of the 2005 through 2009 vintage funds have produced gains that fall within that
range. With so many recent-vintage funds bunched within that narrow band, many fewer GPs show up in the
distribution tail with funds that produced superstar returns. Just over 15% of the US-focused buyout funds from
the 2005–2009 vintages are on track to yield outsized IRRs that exceed 20%; in comparison, nearly 30% of
1990s-vintage funds and fully 35% of funds in the 2000–2004 vintages produced IRRs over 20%. The narrow
range of returns among the vast majority of GPs grouped in the middle makes it very challenging to distinguish
which is truly good from which is weak—and which is just lucky.
Trying to hit a moving target. For LPs, the task of separating the strong from the weak performers for purposes
of deciding which GPs to back with future capital commitments has become that much harder as PE funds have
stretched out holding periods for investments.
LPs do get interim readings on the status of their unrealized holdings, of course, when GPs revalue assets still
held in the portfolio to re?ect market-equivalent gains or losses. But those mark-to-market updates have been
of little help as forward-looking assessments about where their funds will ultimately end up and, hence, of little
value in guiding their future capital commitments. For example, when Bain & Company analyzed a sample of
buyout funds whose valuations put them in the top quartile after their ?rst year, we discovered that just 40% of
them ended up as top-quartile funds by the end of year seven. In fact, they were just as likely to have closed out
their seventh year as underperforming third- or fourth-quartile funds. Likewise, 40% of the funds that were in
the bottom quartile after their ?rst year ended up in the top two quartiles after seven years (se Figure 2.20).
Figure 2.19: Funds now cluster in a very narrow band of returns, as the long tail of outperformers has shrunk
Note: Includes buyout funds with 1990–2009 vintages for which IRR data is available
Sources: Preqin; Bain analysis
Distribution of US-focused buyout funds (grouped by vintage year, percentage of funds in sample)
2005–2009
Median=11.9%
2000–2004
Median=14.8%
1990–1999
Median=13.0%
0
10
20
30
40
50%
Net IRR
–30 to
–20%
–20 to
–10
–10 to
0
0 to
10
10 to
20
20 to
30
30 to
40
40 to
50
50 to
60
60 to
70%
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That high degree of uncertainty as to whether a fund will end up a winner or a loser based on its initially reported
gains poses a real challenge for LPs needing to make a call whether to re-up with GPs when they come knocking
with new fund offerings. Typically, GPs look to raise new capital around four years following the close of their
previous fund. Based on interim returns at that point in the predecessor fund’s life, LPs trying to decide if they
will commit to the new fund lack suf?cient clarity to make a truly informed decision. And with such a narrow
spread between top- and bottom-quartile fund performances for recent vintages, a dramatic swing in the outcome
of just one deal can move a fund out of one quartile and into another. Further Bain analysis found that it is only
after around year seven in a fund’s life that its ultimate return pro?le begins to stabilize. Buyout funds that were
top-quartile performers by the end of the seventh year had a two-in-three probability of ending up a top-quartile
fund, and they were virtually certain to end up in the top half of funds. A bottom-quartile fund in year seven had
a four-in-?ve chance of ?nishing as a bottom-quartile performer (se Figure 2.21).
Are you smart or just lucky? Even when it becomes clear that a GP’s predecessor fund has been a top performer, one
can no longer presume that success will inevitably follow success. A Bain analysis of how likely a GP was to follow up
a top-quartile fund with a top-quartile successor found that performance persistence has slipped badly in recent years.
Speci?cally, Bain discovered that the persistence of returns broke down coming out of the last investment cycle:
Nearly 40% of the successor funds to top-quartile funds from a vintage of 2000 or prior turned out to be top-quartile
performers themselves; this compares with just 30% among successors to the top performers of more recent vintages,
2001 and on (se Figure 2.2). Clearly, some good ?rms let down their guard during the boom, committed to deals
they should have avoided and paid the price in terms of a poor-performing fund. Similarly, other ?rms with a poor track
record parlayed lucky timing of investments made during the downturn into a good fund.
Figure 2.20: With a lot of unsold assets sitting in fund portfolios, performance can shift dramatically
over a fund’s life
Notes: Year 1 is the fund’s vintage year plus one; includes buyout and balanced funds across all vintage years
Sources: Preqin; Bain analysis
Buyout funds that were top quartile in year 1 Buyout funds that were bottom quartile in year 1
Quartile performance over the fund’s life Quartile performance over the fund’s life
0
20
40
60
80
100%
1 2 3 4 5 6 7
Year
0
20
40
60
80
100%
1 2 3 4 5 6 7
Year
Top quartile 2
nd
quartile 3
rd
quartile 4
th
quartile Top quartile 2
nd
quartile 3
rd
quartile 4
th
quartile
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Figure 2.21: How well a fund will ultimately perform is not clear until around the seventh year of its life
Notes: Year 7 is the fund vintage year plus seven; includes buyout and balanced funds across all vintage years
Sources: Preqin; Bain analysis
Buyout funds that were top quartile in year 7 Buyout funds that were bottom quartile in year 7
Quartile performance over the fund’s life Quartile performance over the fund’s life
100%
0
20
40
60
80
7 8 9 10 11 12
Year
0
20
40
60
80
100%
7 8 9 10 11 12
Year
Top quartile 2
nd
quartile 3
rd
quartile 4
th
quartile Top quartile 2
nd
quartile 3
rd
quartile 4
th
quartile
Figure 2.2: The persistence of fund performance appears to be slipping
Performance quartile distribution of successor funds to top-quartile funds
Predecessor fund’s vintage:
2000 and prior
Predecessor fund’s vintage:
2001 and after
10 percentage
point drop
in top-quartile
persistence
Notes: Analysis includes buyout funds with investment region focus of North America, Central and South America, Western Europe, and Central and Eastern Europe; includes
125 fund pairings with the “predecessor fund’s vintage: 2000 and prior” and 93 fund pairings with the “predecessor fund’s vintage: 2001 and after”
Sources: Preqin; Bain analysis
0
20
40
60
80
100%
Top quartile
2
nd
quartile
3
rd
quartile
4
th
quartile
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The break in performance persistence has further complicated LPs’ task of determining whether a fund’s
performance was the result of canny investment prowess or blind luck. Persistence still matters, but LPs can no
longer rely on it as they have in the past and must look beyond a GPs past track record when making investment
decisions. Investors have become keenly aware that beta, the passive outcome of market forces, is no longer likely
to produce consistently strong returns from one fund to the next. But alpha—the value addition that skillful GPs
manage to generate—is repeatable, as suggested by recent research from Oliver Gottschalg, a professor at the École
des Hautes Études Commerciales in Paris, in collaboration with Golding Capital Partners. Their study found
a statistically signi?cant correlation between the evidence of alpha present in one fund and its successor. By
identifying funds that have a demonstrated model for generating alpha, LPs can differentiate successful funds
that will likely win again from those that are not apt to repeat their past success—though this is easier said than
done. An even bigger challenge for LPs is to identify which ?rms have a repeatable model in place for generating
alpha from the start. If they wait until the ?rm has demonstrated success in several earlier funds, they will likely
?nd that they are too late to get in as an investor with that GP in its latest offering.
GPs’ mandate to differentiate
When they sit across from skeptical LPs to pitch their latest fund, many GPs recognize that they have some
explaining to do. If your most recent fund faltered, how can LPs tell whether the mis?re was a one-off anomaly
or a sign that your ?rm has lost its mojo? If your most recent fund’s results fall within the narrow range of so-so
performance turned in by the majority of GPs, what will persuade LPs that your next will be a breakaway winner?
If your funds have done well in the past, how can they remain con?dent that you still have the skills needed to
repeat that success?
Some PE ?rms that hit a bump during the downturn assuage questioning LPs by candidly acknowledging past
mistakes and then quickly assuring them that these are unlikely to recur. Others that may have outperformed
trumpet their success, while quietly anguishing over whether good fortune may deserve more credit than
deft investment or portfolio management skills for their recent fund’s strong performance. But candor and luck
go only so far. Forward-looking GPs—the kind that LPs want to invest behind—understand they must demonstrate
that they can tap clear and enduring sources of competitive advantage, an alpha model that enables them to
transform the assets they acquire to generate top-quartile returns.
At the core of a well-tuned alpha model is a PE ?rm’s clear articulation of where it will play and how it will win.
It draws a tight ring around the investment areas where it is con?dent it will ?nd success and where it will hunt
for the majority of its deals. It determines how it will win by looking across the entire investment value chain to
map out an angle of attack that makes the most of the ?rm’s unique strengths—from sourcing deals and conducting
enhanced due diligence to applying a robust portfolio value-creation model and nimbly managing the exit process.
In today’s investing environment, those ?rms that hone a repeatable model for value creation in their portfolio
companies will outpace the rest.
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3. Back to basics: Portfolio building blocks for market-
beating returns
Today’s tough deal-making environment has drummed home one truth, perhaps above all others, to buyout ?rms:
To generate the outsized returns of the past requires sustained active engagement with portfolio companies. PE
fund managers have become painfully aware that today’s high prices for new acquisitions mean they can no longer
count on external market forces to boost the value of their holdings. An activist approach is just one element of
the investment value chain—stretching from proactive deal sourcing, a structured due diligence that thoroughly
vets the quality of the proposed buy and on through a well-managed exit process—on which the fund’s deal success
depends. But it is a critical step for unlocking alpha in a PE fund portfolio.
Many buyout firms have made solid progress since the 2008 market meltdown in marshaling resources to
actively create value in their portfolios. They are engaging earlier with the management of portfolio companies,
dedicating more time and resources to identify potential sources of value and re?ning their value-creation models
to help extract it. Yet, PE ?rms still struggle with execution: Few systematically engage with each company in their
portfolio, and still fewer do it consistently well. According to a survey that Bain & Company conducted through
the Private Equity Operating Partner Executive Network (PE OPEN), a global network of more than 400 partners
responsible for portfolio company oversight, more than 50% of respondents reported that their ?rm has a clearly
de?ned operating model to create value in their portfolio, but fewer than 5% apply the model consistently—and
with the depth and quality intended—with each portfolio company they own (se Figure 3.1).
Figure 3.1: Half of PE ?rms claim to have a well-de?ned operating model, but less than 5% consistently
deploy it
Percentage of survey respondents Percentage of survey respondents
Note: PE OPEN members are full-time operating partners of major PE funds with assets under management exceeding $500 million
Source: PE OPEN member survey, conducted by Bain & Company, 2014
0
20
40
60
80
100%
Have a clearly
defined model
Have made good progress
but are still developing
In the early stages
0
20
40
60
80
100%
Most of the time
Some of the time
Often do not
All of the time
How would you characterize your firm’s operating
model to create value in the portfolio?
How consistently do you deploy your value-creation
model with the depth and quality intended?
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It is not hard to understand why PE ?rms have dif?culty. Following the energy-draining intensity of completing a
deal, a quick pivot to hands-on engagement that will ?esh out and maximize potential sources of value-generating
alpha is hard—and in many respects antithetical to PE’s transactional mindset. Five major barriers inhibit the
shift from deal making to value creation. The ?rst is complacency on the part of the target company’s management
and the PE ?rm itself. With both sides feeling vindication and relief that the deal has been successfully consummated,
neither is eager to revisit management’s pitch or the fund’s investment thesis and turn them into an integrated,
actionable roadmap for creating new value. Second, during the honeymoon period following a deal’s completion,
neither side is eager to tackle dif?cult issues in the initial months under new ownership. The third impediment
is simple confusion over roles. PE ?rms wrestle with how to balance the backing of strong management teams,
which PE ?rms pride themselves on nurturing, with helping those teams achieve more than they might have with
the next highest bidder. Fourth, would-be PE activists come up against internal cultural norms. Typically, what a
PE fund buys merits the best thinking of both a managing director team and the ?rm’s investment committee, yet
the challenge of how to maximize value is left to the judgment of one or two managing directors and junior team
members. Finally, PE ?rms labor to develop repeatable processes that impose the right amount of structure to
accommodate both the variety of deal situations they encounter and the individual managing directors’ personal
operating styles.
As is common in situations where organizations confront challenges that cannot be surmounted easily, they
default to doing too little, too late. But with the stakes so high and the alpha-generating imperative more important
than ever, delay and half-measures are prescriptions for missed opportunities and underperformance. There is no
single template for activist value creation, and there is much debate about the size, structure and assigned roles
of the portfolio team and the nature, extent and timing of its engagement with portfolio-company management.
Yet as Bain & Company has found through years of experience working with PE firms, all effective activist
value-creation programs are built on the ?ve interlocking building blocks described below. None is suf?cient by
itself, and each needs to be addressed early and repeatedly throughout the asset’s holding period.
1
Capture the “quick hits.” Every deal presents immediate opportunities to make tactical operational improvements
to boost revenue (by tweaking pricing, for example), shrink costs (through smarter procurement or by squeezing
out excess inventories, perhaps) and pocket money left on the table. Engaging quickly with management to
tackle these as soon as the deal closes builds momentum and reduces risk in the investment in year one.
Although it is important to harvest low-hanging fruit and put out ?res, these actions are simply the start of
a value-creation program. In fact, the quick gains captured by ?ne-tuning performance can breed complacency,
and they can absorb resources and energy that distract the portfolio team’s attention or may be more pro?tably
invested in higher value activities with a larger long-term payoff.
In late 2009, CVC Capital Partners, a leading global PE ?rm, paid around $2.2 billion for a string of central European
breweries spun off by AB InBev, the multinational beverage and brewing company. Operating across nine countries,
the new company, renamed StarBev, faced declining beer consumption and falling market share in key countries. CVC’s
operations team became involved during due diligence to scrutinize StarBev for potential cost savings that could yield
quick wins. They discovered that even as a smaller, standalone company, StarBev could reduce ancillary costs in
procurement and manufacturing by, among other things, pooling indirect expenditures across facilities and switching
to energy cogeneration. Within six months the new procurement initiatives and manufacturing improvements were
well under way, and StarBev was able to plow cash back into its brands, improve product quality and pay down debt.
Global Private Equity Report 2015 | Bain & Company, Inc.
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2
Develop strategies to transform the businesses. A long-term strategy that identi?es and creates real competitive
advantage for portfolio companies is the surest way to move the needle on portfolio returns. Portfolio activists
need to formulate and quickly deploy a multiyear strategic transformation—a major product-line extension,
say, or a push into a new adjacency or a channel expansion. Strategies designed to move a company onto a new
trajectory need time to implement and mature if they are going to yield their expected results within the portfolio
company’s typical ?ve-year holding period.
Implementing a transformational change requires deep foundational understanding about the business and
the competitive dynamics of its industry. The PE ?rms that are best able to do this are ones that stick to their
deal sweet spot and have applied their change model over and over again with portfolio companies that share
a similar pro?le. That focus enables them to bring to bear the unique capabilities for identifying where and
how they can create untapped value and mobilize them effectively.
Supported by CVC’s operations team, the country-management teams at StarBev set out to transform the organization
into a growth business. The major priorities of the transformation strategy would be to reinvest in StarBev’s core lager brands
and strengthen the salesforce and account management to recapture market share. And they would make a major push
behind Staropramen, a premium Czech beer that market analysis showed to have untapped export potential. Beyond its
focus on growth through brand building and exports, CVC would continue to take steps to boost margins as sales volume
increased over the long term, consolidating StarBev’s manufacturing footprint and exiting the malting process.
3
Roll out a robust value-creation plan in year one. Jointly formulated by the portfolio company’s senior management
team and the PE fund, the value-creation plan builds alignment around the three to ?ve highest priority short-term
actions and the longer range transformational initiatives that will achieve target equity value over the holding
period. Strategy is about choices and resource allocation; the value-creation plan pares down the laundry list of
potential opportunities to the short list that really matters. It assigns accountability, details an actionable
implementation roadmap, lays out key internal and external metrics to track performance, charges a program
management of?ce to oversee execution and provides the resources it will need to succeed. Far from being a static
document, leading PE ?rms routinely refresh their value-creation plans at predetermined intervals or following a
signi?cant trigger event, such as an acquisition or a change in top management, to ensure the plan is moving toward
its expected goals and making necessary course corrections. Prior to exit, the team updates the value-creation plan
to build the economic case for the asset’s sale and to identify future growth opportunities for the next owner.
When done well and early in the PE ownership cycle, value-creation plans have a huge impact on deal success.
Analyzing 128 exited deals in which Bain was retained to work with management post acquisition, we found
that when the PE fund and management team rolled out a plan and operational blueprint within the ?rst year
of ownership, the fund realized a multiple of 3.6 times invested capital, twice the industry average.
With the help of CVC’s operations team, management ?eshed out its strategic transformation plan by developing a
detailed program to guide implementation of each country’s set of value-creation initiatives. Working with local
managers in each market, the operations team assigned ownership for each initiative, established clear goals and key
milestones and marshaled the resources needed to meet them. StarBev kept close tabs on key performance indicators
to measure progress against each project and take corrective action where required. A program management of?ce at
StarBev’s headquarters consolidated reporting across the business. Monthly management and executive committee
meetings reviewed execution, identi?ed performance gaps and opportunities to close them and kept on top of all
time-sensitive decisions that had to be made.
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4
Focus on talent and build high-performing organizations. The quality of portfolio company management
teams and their ability to drive change is perhaps the most critical—and sensitive—factor in?uencing a deal’s
ultimate success. In a recent survey by accounting ?rm Grant Thornton, PE executives ranked having a strong
management team in place ahead of strategy, operational improvements or macroeconomic factors as the most
important factor in?uencing their portfolio companies’ results.
Setting up the top management team to succeed and providing powerful incentives for them to deliver from
the outset is essential. PE activists must strike a delicate balance between supporting a portfolio company
CEO and being prepared to put someone new in the job early on. A delay in replacing an underperforming
or ill-equipped CEO can signi?cantly undermine even the best formulated value-creation plan. Bain found
that among the portfolio companies it examined, slightly fewer than half of PE owners replaced a CEO at
some point during the period they owned the business. In three out of ?ve of those instances, the decision
to ?re the CEO was not an action the PE ?rm had planned to take at the outset. And in the overwhelming
majority of those cases where an unplanned replacement was made, the PE owners did not act until after
the all-important ?rst year of ownership—after the honeymoon period had ended and the opportunity to
build early forward momentum had passed.
Experienced activist ?rms anticipate the potential need to take decisive and quick action. They maintain
a stable of seasoned senior executives on call who can be parachuted in to fill key senior management
roles. They undertake an early, clear-eyed evaluation of the CEO and his or her chief lieutenants against
the most important criteria of the value-creation plan, and they make necessary changes soon after the
deal closes.
A virtue of the fact that StarBev had begun its life under their ownership as a carve-out was that it lacked a top-heavy
centralized senior management. Rather than build one, CVC instead worked to develop strong country-operations
teams with local talent that would lead and implement the market-speci?c transformation plans. The single-minded
pursuit for these teams was to deliver on the value-creation plans’ objectives and build local capabilities to support
the key initiatives within their countries. StarBev’s lean corporate leadership team focused on human resources,
marketing and sales playbooks, procurement, manufacturing and export expansion.
5
Convert good deals into great ones. Successful portfolio activists take pains to avoid a costly asset-management
pitfall—the temptation to double down and try to put a troubled company back on track at the expense of
nurturing their winners. Of course, it is essential that GPs apply a consistent value-creation model to each
portfolio company as it comes on board, but inevitably some deals will show far more promise than others.
But it is also true that top-performing funds consistently generate fewer losing deals and more winning
deals than their less successful peers. For the average fund, there is much more to gain by dedicating
resources and management time to deals that are already performing well than trying to salvage those that
are failing. Notably, a Bain analysis that simulated alternative outcomes for a sample of funds that turned
in a net IRR of between 5% and 15% during the vintage years from 1995 to 2007 found that the payoff
from investing to go from good to great by replicating the success of top-performing funds’ higher frequency
of winners has three times greater impact than trying to lift a money-losing investment marginally
above breakeven.
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Many PE ?rms struggle to ?nd the time and resources to do value creation right. On average, PE-fund operating
partners responding to the PE OPEN survey reported that they devote some 40% of portfolio resources to
deals on track to deliver less than two times their invested capital. Some said that their ?rms are expending
as much as 60% to turn around deals that will likely return less than the equity capital they committed.
Funds whose mix of portfolio companies is apt to produce just so-so results must pick their battles. By
starving their losers and redirecting resources to nurture their winners, they can boost their overall
portfolio performance.
From the day CVC took control of the StarBev assets in late 2009 until the day it exited the investment less than
two-and-a-half years later, the operations team worked alongside management to maintain a disciplined cadence of
implementing the value-creation strategy. The $3.5 billion sale of StarBev to Molson Coors in early 2012 capped a
winning deal for CVC.
Portfolio value creation is not a one-and-done proposition. Working from these building blocks, PE activists
implant a whole new set of disciplines and capabilities into the daily rhythms and cultural norms of their ?rms,
turning value creation into a repeatable process they hone over time and draw on over and over again.
CVC is now executing a nearly identical playbook at Continental Foods, a carve-out of leading European
consumer brands, purchased for €400 million from Campbell Soup Company in October 2013. Less than a year
into CVC’s ownership, Continental Foods returned to growth after four years of declining revenues, and it improved
its run-rate EBITDA by more than 20%—all while elevating the quality of its products and increasing marketing
investments by 40%. Having already refinanced the business and taken equity off the table, early indicators
suggest that this, too, will end up as a very successful deal.
Identifying barriers to value creation: A self-assessment
Successful portfolio activism prizes two qualities above all others: a sense of urgency and focused intention.
Only PE ?rms that can quickly transition from thinking as acquirers to acting like value creators will be able to
unleash the alpha that will increasingly separate the winners from the losers. With no time to lose, these ?rms
are primed to mobilize the entire organization around the ?ve interlocking building blocks of portfolio activism
before the ink is dry on a deal’s closing documents. To test whether your ?rm will be able do the same, your
deal teams, operations teams and managing partners can evaluate their value-creation readiness by answering
the following questions:
• Has your ?rm developed a repeatable model for creating value in its portfolio companies, and does it have
a high degree of buy-in from the deal partners?
• Does your ?rm have formal processes in place—endorsed by senior partners—that enable it to pivot quickly
from deal making to value creation as soon as a deal closes?
• At each of your portfolio companies, are management and operating partners aligned on the short list of
priority initiatives that will really move the needle on equity value creation?
Global Private Equity Report 2015 | Bain & Company, Inc.
Page 58
• Has your ?rm built a network of C-level executives it can call on to manage a portfolio company as the need arises?
• Is there consensus among your deal and operating partners about which portfolio companies have the potential
to go from good to great, and does your ?rm back those companies with suf?cient resources to help them
become big winners?
• Does your ?rm conduct periodic reviews of each portfolio company and adjust both near-term and long-term
objectives to accommodate changing macroeconomic conditions, new portfolio company challenges and
opportunities or shifting industry dynamics?
Global Private Equity Report 2015 | Bain & Company, Inc.
Page 59
Key contacts in Bain’s Global Private Equity practice
Global: Hugh MacArthur ([email protected])
Americas: Bill Halloran ([email protected])
Asia-Paci?c: Suvir Varma ([email protected])
Europe, Middle East and Africa: Graham Elton ([email protected])
Please direct questions and comments about this report via email: [email protected].
Reporters and news media: Please direct requests to
Dan Pinkney
[email protected]
646-562-8102
Acknowledgments
This report was prepared by Hugh MacArthur, head of Bain & Company’s Global Private Equity practice, and
a team led by Brenda Rainey, manager of Bain’s Global Private Equity practice.
The authors thank Chris Bierly, Alexander DeMol, Christophe DeVusser, Graham Elton, Bill Halloran, Mike McKay
and Suvir Varma for their contributions. They are also grateful to Karen Harris and Austin Kimson for their insights
as director and senior economist, respectively, of Bain’s Macro Trends Group; André Castellini for his perspectives
on Brazil; Paige Henchen and Hana Kajimura for their analytic support; Emily Lane and John Peverley for their
research assistance; and Lou Richman for his editorial support.
We are grateful to Cambridge Associates, CEPRES and Preqin for the valuable data they provided and for their
responsiveness to our special requests.
Global Private Equity Report 2015 | Bain & Company, Inc.
Page 60
This work is based on secondary market research, analysis of ?nancial information available or provided to Bain & Company and a range of interviews
with industry participants. Bain & Company has not independently veri?ed any such information provided or available to Bain and makes no representation
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Bain & Company is the leading consulting partner to the private equity (PE) industry and its stakeholders.
GLOBAL PRIVATE EQUITY REPORT 2015
About Bain & Company’s Private Equity business
Bain & Company is the leading consulting partner to the private equity (PE) industry and its stakeholders.
PE consulting at Bain has grown ?vefold over the past 15 years and now represents about one-quarter of the
?rm’s global business. We maintain a global network of more than 1,000 experienced professionals serving
PE clients. Our practice is more than triple the size of the next largest consulting company serving PE ?rms.
Bain’s work with PE ?rms spans fund types, including buyout, infrastructure, real estate and debt. We also work
with hedge funds, as well as many of the most prominent institutional investors, including sovereign wealth
funds, pension funds, endowments and family investment of?ces. We support our clients across a broad range
of objectives:
Deal generation. We help develop differentiated investment theses and enhance deal ?ow by pro?ling industries,
screening companies and devising a plan to approach targets.
Due diligence. We help support better deal decisions by performing due diligence, assessing performance
improvement opportunities and providing a post-acquisition agenda.
Immediate post-acquisition. We support the pursuit of rapid returns by developing a strategic blueprint for
the acquired company, leading workshops that align management with strategic priorities and directing
focused initiatives.
Ongoing value addition. We help increase company value by supporting revenue enhancement and cost reduction
and by refreshing strategy.
Exit. We help ensure funds maximize returns by identifying the optimal exit strategy, preparing the selling
documents and prequalifying buyers.
Firm strategy and operations. We help PE ?rms develop distinctive ways to achieve continued excellence by devising
differentiated strategies, maximizing investment capabilities, developing sector specialization and intelligence,
enhancing fund-raising, improving organizational design and decision making, and enlisting top talent.
Institutional investor strategy. We help institutional investors develop best-in-class investment programs across
asset classes, including PE, infrastructure and real estate. Topics we address cover asset class allocation, portfolio
construction and manager selection, governance and risk management, and organizational design and decision
making. We also help institutional investors expand their participation in PE, including through co-investment
and direct investing opportunities.
Bain & Company, Inc.
131 Dartmouth Street
Boston, Massachusetts 02116 USA
Tel: +1 617 572 2000
www.bain.com
Global Private Equity Report 2015 | Bain & Company, Inc.
Page i
Contents
Finding meaning in the year of the exit . . . . . . . . . . . . . . . . . . . . . . . . . . pg. iii
1. The PE market in 2014: What happened . . . . . . . . . . . . . . . . . . . . . . . . . pg. 1
Exits: A year for the record books . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . pg. 2
– Exit channels were deep and broad
Fund-raising: Recycling the gains . . . . . . . . . . . . . . . . . . . . . . . . . . . . pg. 6
– LP demand: Ready, willing and able
– GP supply: It’s crowded out there
Investments: Turbulence beneath a calm surface . . . . . . . . . . . . . . . . . . . pg. 11
PE funds learn to dance to a slower Brazilian beat . . . . . . . . . . . . . . . . . pg. 15
Returns: Mind the gap . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . pg. 16
– The public market benchmark: Good compared to what?
Key takeaways . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . pg. 22
2. What’s happening now: Dynamics that
will shape PE in 2015 and beyond . . . . . . . . . . . . . . . . . . . . . . . . . . . .pg. 23
For better and worse, capital superabundance is here to stay . . . . . . . . . . pg. 24
– Getting right with capital superabundance: A GP’s guide
Shadow capital looms over PE . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . pg. 31
– Learning to live in the shadow: Lessons for GPs
Refocusing on America . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . pg. 39
– Making it in America: Precautions for GPs
Global Private Equity Report 2015 | Bain & Company, Inc.
Page ii
New macro risks challenge Europe’s PE investors . . . . . . . . . . . . . . . . . . pg. 44
It’s getting harder to spot the winners . . . . . . . . . . . . . . . . . . . . . . . . . . . pg. 46
– GPs’ mandate to differentiate
3. Back to basics: Portfolio building blocks for market-beating returns . . . . . . pg. 53
Identifying barriers to value creation: A self-assessment . . . . . . . . . . . . . . pg. 57
Global Private Equity Report 2015 | Bain & Company, Inc.
Page iii
Finding meaning in the year of the exit
Dear Colleague:
We’ve been waiting for big news from the PE industry for almost ?ve years, and 2014 delivered. Exits from buyouts
exceeded $450 billion, surpassing the all-time high by a wide margin. The ?ow of so much capital came as a
welcome relief to LPs and GPs alike and has infused the industry with new con?dence that returns from holdings
acquired during the peak investment years will end up better than most industry pundits feared. However, this
?ood of capital will have knock-on effects that raise new challenges for investors in 2015 and beyond.
The dramatic increase in exits marks the fourth consecutive year distributions have outpaced capital calls for the
LP community. As a result, LPs looking to maintain or increase their exposure to their highest returning asset
class made 2014 another strong year for fund-raising. Top funds attracted fresh capital very rapidly, as huge amounts
of money chased the same top-quartile performers. Most were oversubscribed and hit hard caps. So, where is
the extra capital going? Some of the over?ow is cascading into other funds, and some is even going into LPs’
own direct investment programs. By the end of last year, freshly committed dry powder hit a global record of
$1.2 trillion, including $452 billion earmarked for buyouts alone.
One thing that did not change very much in 2014 was the always limited supply of companies to buy; it has
remained relatively constant as the mountain of capital pursuing these companies has grown. Supported by a
continued abundance of low-cost debt and high valuations for comparable public companies in most markets,
more PE money chasing the same assets has led to stubbornly high pricing. The forces that are driving up
valuations are structural and very dif?cult to change. The challenge of how to make money investing in PE has
never been greater.
Our industry continues to evolve in interesting ways. Please read on to learn about the full impact of super-
abundant capital and why it will not ensure that PE rebounds from future downturns as well as it has from this
past one. See how “shadow capital” is reshaping the GP-LP relationship and risks shaking up the industry’s
economics. Discover the challenges of investing in the resurgent US market, why it has become so dif?cult to
spot winning funds and how to continue to invest for success as a GP.
We hope you will enjoy Bain’s latest Global Private Equity Report, and we look forward to continuing our dialogue
with you in the year ahead.
Hugh H. MacArthur
Head of Global Private Equity
February 2015
Global Private Equity Report 2015 | Bain & Company, Inc.
Page iv
Global Private Equity Report 2015 | Bain & Company, Inc.
Page 1
1. The PE market in 2014: What happened
With the results in for 2014, the characteristics of this remarkably durable private equity (PE) rebound have come
into sharper focus. It is now clear that PE has been riding the waves of a world awash in capital that show no signs
of breaking anytime soon. Worldwide, the number and value of buyout exits climbed to an industry record last
year. Strong distributions of capital ?owed back to LPs, helping to make 2014 another solid year for raising new
funds. But while it has been a great time to be a seller in the current cycle, it has been challenging to be a buyer.
The combination of a surge in global liquidity and near-zero interest rates has in?ated asset valuations, lifting
acquisition multiples on PE investment targets. Global buyout investment activity has remained steady since the
recovery got under way (se Figure 1.1).
As 2015 unfolds, will the PE industry continue to display the resilience that has served it so well in a time
characterized by capital superabundance and torpid global growth? The industry’s near-term prospects will be
influenced by whether ongoing structural problems in the eurozone and slowing GDP growth in the Asia-
Paci?c region outweigh the gathering momentum of North America’s cyclical expansion, tipping the global
economy into recession. PE’s potential will also be shaped by whether the actions of central banks—in particular,
a long-anticipated interest rate hike by the US Federal Reserve Board—choke off the ready availability of cheap
high-yield debt or curb the animal spirits of the public equity markets.
Figure 1.1: It was a standout year for exits, while fund-raising and investments held steady
Notes: Exits: exclude bankruptcies; Fund-raising: includes funds with final close; represents year funds held their final close; Investments: exclude add-ons, loan-to-own transactions
and acquisitions of bankrupt assets; based on announcement date; include announced deals that are completed or pending, with data subject to change
Sources: Dealogic; Preqin
Exits
0
100
200
300
400
$500B
2010 11 12 13 14
Global buyout exit value
Fund-raising
0
100
200
$300B
2010 11 12 13 14
Global buyout capital raised
Investments
0
100
200
$300B
2010 11 12 13 14
Global buyout deal value
Global Private Equity Report 2015 | Bain & Company, Inc.
Page 2
What will not change in the year ahead, however, are the forces unleashed by superabundant global capital. As
we will explain in Section 2 of this report, asset prices will remain chronically high as dry powder continues to
pile up and competition for deals remains feverish—including competition from large pools of “shadow capital”
in the hands of big institutional investors and sovereign wealth funds looking to co-invest, or even bypass PE
funds entirely. Those factors will turn up the heat on general partners (GPs) to demonstrate new resourcefulness
by digging deeper into the pool of companies that could bene?t from PE ownership or by discovering untapped
opportunities, particularly in the relatively attractive US market. Whether the economic expansion keeps grinding
along or ends in a downturn in 2015, PE ?rms will need to become authors of their own success by grooming
their portfolio companies to prosper in any business climate. In Section 3, we identify the barriers that would-be
PE portfolio activists face and describe the building blocks for engaging early and effectively with portfolio
company management.
Exits: A year for the record books
Optimism was high on the exit front going into 2014. Public equity markets in Europe and North America
had registered strong gains in the preceding year, laying a solid foundation for lucrative initial public offerings.
Cash-rich corporate acquirers, feeling pressure to meet shareholder demands for growth, were poised to
open their wallets for PE-owned companies that ?t their strategic goals. And deal-hungry PE funds, eager to
put capital to work, were ready buyers-in-waiting of assets groomed by PE owners inclined to sell in sponsor-
to-sponsor transactions.
In the end, exits in 2014 shattered even the lofty expectations of an industry primed for a good year. Worldwide, the
numbers and value of buyout-backed exits reached new records (se Figure 1.2). At better than 1,250 sales, last
year’s exit count surpassed its previous peak of 1,219 transactions in 2007. And total exit value, at $456 billion, also
blew past its previous record of $354 billion in 2007 and was 67% higher than it was in 2013.
A superabundance of global capital and sustained high asset valuations powered these dramatic gains in most
regions of the world, making sellers rejoice and buyers cautious. There were healthy double-digit increases in
the number of buyout exits from the year before: 22% in North America and 16% in Europe. In the Asia-Paci?c
region, which is typically not a buyout market, the number of buyout-backed exits dropped 12%, but overall, PE
exits, including sales of minority stakes in private companies and shares of publicly traded enterprises, jumped
22%, to 476 sales—well above the previous year.
A world awash in capital more dramatically affected deal values across the major regions. Notably, buyout-backed
exits in Asia-Paci?c markets shot up to nearly $53 billion, a 120% increase. In all, Asia-Paci?c exits topped $105
billion. Europe saw the biggest jump in the value of buyout-backed exits, increasing to $173 billion from just
$85 billion in 2013. Buyout sales in North America rose a solid 34%, to more than $214 billion.
As PE funds continued to harvest the unrealized value in their portfolios, the average holding period has
lengthened—and will continue to stretch because so many holdings acquired during the boom years have yet
to be fully exited. For buyouts exited in 2014, the median holding period had extended to a record-long 5.7 years,
up from just 3.4 in 2008. Many investments made before the global ?nancial crisis simply required more time
to be made ready for exit. Also, it takes longer to groom assets acquired at high purchase multiples after the crisis
to yield acceptable returns. Indeed, 60% of assets sold in 2014 had been in PE portfolios for more than ?ve years;
in comparison, only 11% had been held less than three years—so-called “quick ?ips” (se Figure 1.3).
Global Private Equity Report 2015 | Bain & Company, Inc.
Page 3
Figure 1.2: The number and value of buyout-backed exits hit new records in all regions in 2014
Notes: Bankruptcies excluded; IPO value represents offer amount and not market value of company
Source: Dealogic
0
500
1,000
1,500
Value of global buyout-backed exits
5
96
15
97 98
40
99 00 01
52
02
44
03
65
04
170
05
252
06
232
07 08
150
09
68
10 11
273
12
239
13
274
14
456
Count of global buyout-backed exits
100
200
300
400
$500B
0
1995
14
37
82
354
254
North America
Europe
Asia-Pacific
Rest of world
Total count
Figure 1.3: In 2014, fewer than 10% of exits were “quick ?ips” of assets held less than three years
Source: Preqin
0
20
40
60
80
100%
Year of exit
Percentage of global buyout-backed investments exited (by length of time investment was held in fund portfolio)
>5 years 3–5 years <3 years
06 07 08 09 10 12 13 14 2004 05 11
Global Private Equity Report 2015 | Bain & Company, Inc.
Page 4
Exit channels were deep and broad
Exits through all channels increased signi?cantly last year, with sales to strategic buyers and IPOs dominating
(se Figure 1.4).
Sales to strategic buyers have traditionally been the biggest channel for buyout-backed exits, and corporations saw
their purchasing power turbocharged in 2014. With capital spending restrained in a hesitant global expansion,
corporations sat on unprecedented cash reserves, and the steep climb in public equity markets made their shares
a valuable supplemental currency they could use for acquisitions. Historically low interest rates and wide-open
debt markets added further rocket fuel to boost corporations’ ability to buy.
Along with this increased wherewithal came a much greater willingness to put it to work. Shareholders demanded
that corporations boost growth and earnings in order to warrant sharply higher share prices. But organic growth
was hard to come by in a competitive, low-in?ation economy, making mergers and acquisitions an attractive
path forward.
Corporate acquirers were discerning shoppers for assets that ?t their strategic goals, buying 715 PE portfolio companies
in 2014—13% more than the year before. And deal sizes were also much larger than in 2013: By value, total exits
to strategic acquirers topped $303 billion—a 91% jump. Three buyout-backed exits came in at valuations exceeding
$10 billion, led by KKR’s completion of the $25.1 billion sale of UK-based drugstore chain Alliance Boots to Walgreen
Company, the largest US drug retailer (se Figure 1.5).
Figure 1.4: Buyout-backed exits increased across all channels in 2014; IPOs and strategic sales dominated
Notes: Bankruptcies excluded; IPO value represents offer amount and not market value of company
Source: Dealogic
Strategic
Sponsor-to-sponsor
IPO
Total count
0
100
200
300
400
$500B
0
500
1,000
1,500
Value of global buyout-backed exits
5
96
15
97 98
40
99 00 01
52
02
44
03
65
04
170
05
252
06
232
07 08
150
09
68
10 11
273
12
239
13
274
14
456
Count of global buyout-backed exits
1995
14
37
82
354
254
Global Private Equity Report 2015 | Bain & Company, Inc.
Page 5
Robust equity markets underpinned the success PE sellers enjoyed in strategic exits and served as a potent exit
channel in its own right through IPOs. Globally, buyout-backed IPOs numbered 210, an increase of 20% over
2013, and their value jumped 48%, to $86 billion. Even though IPO activity weakened in the second half of the
year due to greater market volatility, nearly three-quarters of public offerings ?oated by PE ?rms sold within or above
their target range. Indeed, because valuations in the public markets were often higher than those of privately held
assets, PE ?rms often pursued dual-track sales processes to maximize the value of their holdings.
Exits via IPOs were strong, particularly in Europe and the Asia-Paci?c region. Buyout-backed IPOs doubled both
in number and value in Europe. In the Asia-Paci?c markets, their value almost quintupled, and the $63 billion value
of new share offerings exceeded the value of strategic sales and sponsor-to-sponsor exits combined. Accounting
for the big increase in the Asia-Paci?c region was the reopening of China’s IPO market, a critical venue for IPOs
across the Asia-Paci?c region, which regulators had shut amid accounting scandals in late 2012. Even excluding
the $21.8 billion public debut of Alibaba, China’s biggest e-commerce company, the value of PE-backed IPOs in
the Asia-Paci?c region in 2014 was still three times what it had been a year earlier.
The big of?cial numbers posted in 2014 do not fully re?ect how important the healthy IPO market has been to
PE ?rms, because they re?ect only the value based on the issuing price for the shares offered. What they fail to
capture is the imputed full market value of the portfolio company, including shares that remain to be sold in future
offerings. Examining the 100 biggest PE exits worldwide, a Bain & Company analysis found that 49 were IPOs
carrying a market value of $184 billion, which nearly matched the $188 billion disclosed value of the 38 largest
strategic sales and the 13 biggest sponsor-to-sponsor deals combined.
Figure 1.5: Exits to strategic buyers were up sharply in 2014 and included three valued at $10 billion
or more
Target name
Target
country
Target
industry Seller
Initial
entry year
Strategic
acquirer
Deal value
($B)
Quarter
announced
Notes: Initial entry year is based on deal’s close date; deal value includes debt and is as reported by Dealogic as of January 2015
Sources: Dealogic; Preqin
Alliance Boots UK Retail KKR 2007 Walgreen
Company
25.1 Q3
Biomet US Healthcare Blackstone; Goldman Sachs; KKR; TPG 2007 Zimmer Holdings 13.4 Q2
Grupo Corpo-
rativo Ono
Spain Telecom CCMP; Providence Equity; Quadrangle
Group; Thomas H. Lee Partners
2003 Vodafone
Group
10.0 Q1
Athlon Energy US Oil and gas Apollo 2010 Encana 6.8 Q3
Nuveen
Investments
US Finance Madison Dearborn 2007 TIAA-CREF 6.3 Q2
Oriental
Brewery
South
Korea
Food and
beverage
Af?nity Equity; KKR 2009 Anheuser-Busch
InBev
5.8 Q1
Numericable
Group
France Telecom Carlyle; Cinven 2005 Altice Group 5.7 Q2
Omega
Pharma
Belgium Healthcare Waterland 2012 Perrigo 4.5 Q4
Arysta
LifeScience
US Agriculture Permira 2008 Platform
Specialty Products
3.5 Q4
OneWest
Bank
US Financial
services
Dune Capital Mangement; J.C. Flowers; MSD
Capital; Paulson & Company; Silar Advisors;
Soros Fund Management; Stone Point Capital
2009 CIT Group 3.4 Q3
Global Private Equity Report 2015 | Bain & Company, Inc.
Page 6
The new IPOs also understate in other ways the importance of public equity markets as an exit venue for private
equity. PE funds, for example, tapped the strong stock markets in 2014 to issue $103 billion worth of follow-on
shares for portfolio companies that had previously held an IPO. In all, the combined value of new buyout-backed
IPOs and follow-on issuances from “old exits” totaled $189 billion last year and was a critical source of capital
that PE ?rms could distribute to their LPs.
Any year that boasts solid double-digit gains both in the number and value of exited deals has got to be counted as a
strong one. By that standard, sponsor-to-sponsor transactions certainly quali?ed in 2014. By count, sales to PE buyers
were up 15%, and by value, they increased a solid 18% over the previous year. Only in a great year for exits would
numbers like these look modest, but such were the conditions PE sellers faced in sales opportunities to corporate
acquirers and in the hot IPO markets that sponsor-to-sponsor deals traf?cked mainly in leftover holdings.
Fund-raising: Recycling the gains
GPs that hit the trail to raise capital for new funds in 2014 encountered the same forces at work as they did in 2013,
a strong year for fund-raising. Flush with cash distributions from an exceptional year of exits, LPs were eager to
top up their allocations to PE, their best performing asset class. But they remained highly selective in the
commitments they were prepared to make and the ?rms with which they were willing to invest. The road warriors
also ran into a record number of like-minded GPs competing fiercely for the same goal. The result: Highly
discriminating LP investors and hungry fund sponsors racked up another solid year on the fund-raising front.
Worldwide, 1,001 PE funds—200 fewer than in 2013—landed $499 billion in new capital commitments last year.
This value was 6% less than the year before, but funds raised over the past two years exceeded that in all but the
boom years between 2006 and 2008. Capital raised for buyout funds dropped 11%, but growth funds, secondaries
and venture funds all scored impressive gains (se Figure 1.6).
The drop in buyout fund-raising from a year earlier was more a consequence of the idiosyncrasies of the funds
that happened to be in the market than a sign of weakness. In 2013, buyout ?rms recorded the close of ?ve mega-
funds exceeding $10 billion, including the $18.4 billion Apollo Investment Fund VIII. Last year saw the close of
just one such fund, the $10.9 billion Hellman & Friedman VIII, but it came in at 22% above target within six
months. Although many LPs remain averse to mega-buyout funds, larger LPs with a lot of capital to invest have
little choice other than to sign on if they are going to meet their PE asset-allocation goal. Indeed, the best of the
mega-buyout funds turned away LPs looking to make new commitments. For example, Hellman & Friedman VIII
was reportedly oversubscribed by several billion dollars. In the end, seven of the year’s biggest buyout funds
brought in more than $5 billion each, and all of them met or exceeded their targeted fund-raising goal.
If the bigger buyout funds were able to win over reluctant LPs, mid-market funds looking to raise between
$500 million and $3 billion faced no such reticence. GPs shopping these funds won commitments totaling
$68 billion in 2014, and competition among LPs to get an allocation with the better performing GPs was ?erce.
By region, fund-raising increased for Europe-focused PE funds in 2014, despite current economic weakness
and stubborn structural challenges that will hang over the eurozone in coming years. Fund-raising also rose
in the Asia-Paci?c region, where patient institutional investors ?nally saw distributions pick up since 2013.
In North America, fund-raising settled below the high level achieved in the previous year, which had been
in?ated by the closing of a large number of US mega-buyout funds.
Global Private Equity Report 2015 | Bain & Company, Inc.
Page 7
LP demand: Ready, willing and able
LPs had both the con?dence and capacity to commit fresh capital to new PE funds in 2014. Over the longer term,
gains from PE investments towered above those of all other major asset classes in LPs’ portfolios. As of midyear,
the median return of PE holdings in public pension fund portfolios over a 10-year time horizon was 10.8% vs. 8.2%
for public equities, 6.4% for real estate investments and 5.4% for ?xed income.
Both the magnitude and consistency of those returns have reinforced LPs’ conviction that their PE investments
were meeting or exceeding their expectations. A recent survey by Preqin, the alternative assets data provider,
found that just 8% of LPs felt PE had fallen short, compared with 19% that had expressed some disappointment
just three years ago. And with near unanimity, LPs believe that PE markets will continue to outperform public
markets in the future, even as they anticipate that the performance gap will narrow in the wake of ?ve years of
steady stock market gains. With that faith in PE, it is little wonder that 84% of LPs responding to the Preqin
survey said they planned to maintain or increase their PE allocation. As one LP we interviewed last fall put it,
“I don’t know where else you would put capital.”
LPs have lots of room—and plenty of capital—to back new PE funds. They have seen a bounty of cash flow
their way over the past four years as distributions from GPs exiting mature investments have outpaced
capital calls in a slower-paced deal-making environment. This recycling of capital is one important pillar
supporting PE fund-raising, and it has been gaining strength in all major regions of the world. In the
US and Europe, distributions have exceeded new cash calls every year since 2011. In 2014, LPs invested in US
buyout funds got back $2.40 for each dollar called; in Europe, LPs received $2 for every dollar they were expected
Figure 1.6: In 2014, PE fund-raising slipped 6%, to $499 billion, but the year still ended strong
Notes: Includes funds with final close and represents year funds held their final close; distressed PE includes distressed debt, special situation and turnaround funds; other includes
PIPE and hybrid funds
Source: Preqin
0
200
400
600
$800B
2003
105
04
216
05
362
06
543
07
666
08
685
09
318
10
295
11
343
12
392
13
528
14
499
Global PE capital raised (by fund type)
(13–14)
CAGR
(09–14)
CAGR
–11% 11% Buyout
–50% 3% Mezzanine
50% 83%
–6% 9%
Other
1% 12% Real estate
37% 11% Venture capital
–13% 30% Infrastructure
41% 12% Growth
18% 3% Secondaries
–25% 12% Distressed PE
–22% 0% Nat resources
–16% –11% Fund of funds
Global Private Equity Report 2015 | Bain & Company, Inc.
Page 8
to ante up. LPs that invested in Asia-Pacific growth and buyout funds, too, have been cash-flow positive in
2013 and 2014, following a seven-year drought. The turnabout may mark a turning point for LPs in the Asia-
Paci?c region, sparking their renewed interest in making new commitments to Asia-Paci?c–focused funds
(se Figure 1.7).
Another crucial support holding up fund-raising over the past two years has been the strong returns generated
by the bullish public equity markets. Rising stock prices have in?ated the unrealized value of institutional investors’
overall portfolio holdings, requiring them to boost their new commitments to PE funds simply to maintain their
target allocation for the asset category. Based on Preqin data, nearly half of all LPs were tracking below their target
PE allocation by the end of 2014, compared with just shy of 30% that were underweighted at the end of 2012.
The bottom line: Fund-raising has plenty of room to grow on the demand side.
GP supply: It’s crowded out there
LPs looking for PE funds to back had an abundance of choices. GPs shopping more than 2,000 funds of every
description and across all geographies were on the road as 2014 began, looking to raise approximately $740 billion,
with nearly one-half of that amount targeting investments in North America. Europe-focused funds aimed to bring
in $196 billion, or about one-quarter of the total, and funds earmarked for the PE markets in the Asia-Paci?c region
and the rest of the world accounted for the balance. By fund type, sponsors of buyout funds were looking to raise
more than one-quarter of capital sought worldwide.
Figure 1.7: Positive cash ?ow from distributions supported new PE fund commitments
US Asia-Pacific Europe
–100
–50
0
50
$100B
Capital contributions and distributions
by US buyout funds
09 10 11 12 13 1H14 2008
2.4 0.3 0.5 0.9 1.3 1.9 3.1
Ratio of
distributions to
contributions:
0
–40
–20
20
$40B
Capital contributions and distributions
by European buyout funds
2008 09 10 11 12 13
2.0 0.4 0.2 0.6 1.5 1.5 2.4
1H14
Ratio of
distributions to
contributions:
–20
–10
0
10
$20B
Capital contributions and distributions
by Asia-Pacific buyout and growth funds
2008 09 10 11 12 13 1H14
1.6 0.3 0.5 0.8 0.7 0.5 1.2
Ratio of
distributions to
contributions:
Contributions Distributions Net cash flows
Note: Europe includes developed economies only
Source: Cambridge Associates
Global Private Equity Report 2015 | Bain & Company, Inc.
Page 9
The key to GPs’ prospects for fund-raising success, of course, was to hit the sweet spot of what LPs were
looking to buy. Mid-market buyout funds targeting the US and Europe remained in high demand, capturing
the top two spots in Probitas Partners’s 2014 and 2015 institutional investor trend surveys of LPs’ fund preferences.
Similarly, growth-capital funds continued to rank high on LPs’ lists. Big buyout funds again had a low ranking,
but they managed to attract a lot of capital from major institutional investors with large sums of capital to
put to work.
The pace and intensity of fund-raising remain hot and are markedly improved over what they had been earlier
in this PE cycle. In 2009 and 2010, fund-raising was largely on pause as LPs’ willingness and capacity to take
on new commitments were weak. In 2011, when LPs started to enjoy positive cash ?ows that enabled them to
reinvest in PE, GPs surged to capitalize on the green shoots of a recovery by mounting new fund-raising
campaigns. Competition intensified as GPs’ eagerness to raise new funds far outstripped LPs’ ability to
commit. With demand from LPs finally coming into full bloom, the fund-raising market in 2013 and 2014
has settled into a more normal equilibrium. More than twice as many buyout funds came to market last year
as closed during the year, with GPs looking to raise two times more capital than LPs ended up committing
(se Figure 1.8).
The persistent imbalance between GP supply and LP demand continues to make fund-raising challenging.
The average amount of time GPs needed to raise a new PE fund still hovers at nearly 17 months—little changed
since the global ?nancial crisis. Buyout funds appear to be having more success, with the average time to raise
Figure 1.8: The wide gap has narrowed between GPs’ supply of buyout funds and LPs’ demand for them
0
1
2
3
4X
The number or value of buyout funds on the road during the year divided by the number or value of buyout funds closed that year
2005
2.0
1.8
2006
2.0
1.8
2007
2.0
1.8
2008
1.9
2.0
2009
2.3
2.4
2010
2.2 2.2
2011
3.1
2.5
2012
3.2
2.5
2013
2.0
2.3
2014
2.0
2.3
Source: Preqin
Aggregate capital Number of funds
Global Private Equity Report 2015 | Bain & Company, Inc.
Page 10
a fund down to around 14 months for funds closed in 2014. Of course, averages obscure the reality that the
most successful and sought-after GPs have been able to raise new capital quickly and easily, while others have
struggled. Among the PE funds that closed in 2014, 30% met or exceeded their fund-raising target within
12 months, a meaningful improvement from two years ago. Buyout fund-raisers were more successful, with
nearly half raising the capital they sought within a year (se Figure 1.9).
With so much money in the hands of LPs looking to reinvest in PE, the improved fund-raising results enjoyed
by top-performing ?rms is spilling over to other GPs more broadly. Money that could not ?nd a home in a new
fund of a top-performing GP is cascading down to GPs with weaker or shorter track records, enabling more funds
to successfully raise capital.
LPs are still shying away from recommitting to GPs with whom they have had a bad experience. But in a recent
Preqin survey, four out of ?ve LPs said they were open to investing with a GP with whom they had not previously
worked. It takes signi?cant investment for PE ?rms to cultivate relations with new LPs that may eventually result
in a commitment of capital to a new fund, but the evidence shows it is paying off. Among funds that had their
?nal close between 2012 and 2014, 64% of funds were able to replace 30% or more of the LPs that had invested
in a predecessor fund with new investors.
Figure 1.9: Fund-raising remained bifurcated in 2014, but more GPs had success raising capital than
in prior years
Source: Preqin
30% of all PE funds successfully raised capital
Hit or beat target in less than 1 year Hit or beat target in 1–2 years Raised less than target and/or took more
than 2 years
48% of buyout funds successfully raised capital
0
20
40
60
80
100%
2012
2013
2014
Year of final close
Percentage of PE funds closed
0
20
40
60
80
100%
2012 2013 2014
Year of final close
Percentage of buyout funds closed
Global Private Equity Report 2015 | Bain & Company, Inc.
Page 11
Investments: Turbulence beneath a calm surface
PE buyout activity has been remarkably ?at since the latest expansion cycle kicked into gear back in 2010, and
2014 marked a continuation of that trend. Unlike in past cycles, when deal making steadily gained momentum
as con?dence in the upswing solidi?ed, recent buyout activity has barely budged since snapping back from
2009’s recessionary levels (se Figure 1.10). In fact, buyout ?rms announced 1,955 transactions in 2014—
only 85 more than in 2010—with a total deal value of nearly $252 billion. Minor year-to-year ?uctuations in the
deal totals over the current cycle re?ect more the idiosyncrasies of the speci?c transactions completed in a given
12-month period than a shift in trend.
Yet the apparent calm on the new-investment front masks intense—and growing—deal-making pressures just
beneath the surface. The forces at work cut two ways. First, PE funds’ keen hunger to buy in an environment of
intense competition, on the one hand, did battle with GPs’ self-imposed restraint not to overpay. Second, the
continued rise of the public equity markets has lifted the ?oor on valuations that prospective PE buyers face,
increasing acquisition multiples to levels that price many deals out of reach.
Vast sums of undeployed capital in the hands of a record number of PE firms has been the biggest factor
propelling deal making forward in 2014. Nearly 6,000 active PE firms (more than 1,000 of them buyout
firms), wielding $1.1 trillion in dry powder ($408 billion of it earmarked for buyouts), were in the hunt for
Figure 1.10: Global buyout activity changed little over the past four years
0
200
400
600
$800B
0
1,000
2,000
3,000
31
96
31
97
53
98
65
99
111
00
98
01
68
02
109
03
134
04
247
05
293
06 07 08
189
09
77
10
204
11
203
12
199
13
256
14
252
1995
687 673
Notes: Excludes add-ons, loan-to-own transactions and acquisitions of bankrupt assets; based on announcement date; includes announced deals that are completed or pending, with
data subject to change; geography based on target’s location
Source: Dealogic
Rest of world 44%
Asia-Pacific 35%
Europe 12%
North America –18%
Total count 2%
(13–14)
CAGR
Global buyout deal value Deal count
Global Private Equity Report 2015 | Bain & Company, Inc.
Page 12
acquisitions as 2014 began. As the year unfolded, PE firms refilled their coffers faster than they could put
capital to work; by year end, their mountain of dry powder topped out at a shade above $1.2 trillion—$452 billion
of it for buyouts (se Figure 1.1).
Lenders desperate for yield ?ocked to PE, holding down the cost of debt for buyouts and offering favorable terms
to issuers as the supply of credit far outpaced demand. Average multiples of debt used in leveraged buyouts in
2014 continued to climb in the US and Europe, inching back up to levels last seen during the prerecession years
of 2006 and 2007.
Abundant dry powder and credit were not just characteristics of the mature US and European markets; steadily
rising stores of capital overhung PE funds across the Asia-Paci?c region as well, pressuring GPs to put money
to work and cranking up competition for deals. In all, dry powder in the hands of Asia-Paci?c–focused buyout
and growth funds totaled $87 billion at the end of 2014, an increase of 64% from the end of 2008.
Instead of greasing the skids of global deal making, however, these vast sums of dry powder, supplemented by abundant
cheap debt in the hands of eager PE buyers, pushed up prices in a capital-saturated market where attractive assets
were in limited supply. Courted on all sides, would-be sellers in every major market could hold out for top dollar for
assets they controlled. PE buyers ran into stiff competition from familiar deal-making rivals. Flush with record-high
levels of cash, corporations remained active acquirers, as they have been since the start of the economic recovery.
Continued buoyant public equity markets also set a ?rm ?oor under asset valuations. Despite short-lived bumps that
gave sellers no reason to recalibrate their price expectations, the FTSE 100 and DAX indexes ended 2014 up 8% and
Figure 1.1: PE funds held record amounts of dry powder in 2014, including $452 billion for buyouts
Source: Preqin
0
500
1,000
$1,500B
As of year end
Global PE dry powder
2003
401
04
404
05
557
06
794
07
996
08
1,063
09
1,056
10
960
11
1,002
12
943
13
1,101
14
1,202
185 354 408 452 176 257 376 435 479 479 424 388 Buyout ($B)
13–14
CAGR
11% Buyout
16% Real estate
14% Venture capital
15% Infrastructure
–10% Growth
3% Distressed PE
–9% Mezzanine
11% Other
9%
Global Private Equity Report 2015 | Bain & Company, Inc.
Page 13
26%, respectively, and the S&P 500 soared 40% since the start of 2013, moving into record territory. According
to data analyzed by S&P Capital IQ through the middle of 2014, purchase-price multiples for leveraged buyouts
in the US averaged 9.6 times earnings before interest, taxes, depreciation and amortization (EBITDA) and
10 times EBITDA in Europe—highs the market had not seen since the peak of the last cycle.
Finally, self-imposed and externally applied restraints also reined in PE deal making. Coming out of the global
?nancial crisis, PE funds have avoided joining forces with one another in the big club deals that were so popular
in 2006 and 2007; as a result, the equity check size for any deal has been limited to what a single fund can write
(fund mandates typically cap a fund from investing more than 15% of the fund size in a single portfolio company)
along with co-investors. Squeezing PE deal size from the debt side, regulators are trying to limit the amount of
leverage on deals. In the US, for example, regulators have issued guidance to banks not to ?nance takeovers where
debt exceeds six times EBITDA.
Taken together, the caps on the amounts of equity and debt that can be marshaled to conduct a transaction keep
a fairly tight lid on deal size. Limitations like those take potential deals off the table—not just big public-to-private
conversions but also large sponsor-to-sponsor deals and carve-outs. The buyout market today is composed almost
exclusively of deals valued at less than $5 billion (se Figure 1.12).
Given the public equity markets’ rise, it is no surprise that few public-to-private transactions took place in 2014;
only three of the 10 largest buyout deals around the world were public-to-private conversions. Yet one bene?t of
the high valuations was the incentive they gave corporations to sell noncore assets. Many of these carve-outs ended
Figure 1.12: An increase in deals valued at $1 billion to $5 billion made up for the lack of mega-deals
in 2014
0
200
400
600
$800B
2003 04 05 06 07 08 09 10 11 12 13 14
134
247
293
687
673
189
77
204 203
199
256
252
Global buyout deal value
n/a
–50%
62%
19%
–1%
15%
(13–14)
CAGR
n/a
28%
7%
2%
3%
–2%
(10–14)
CAGR
>$10B
$5B–10B
$1B–5B
$500M–1B
$100M–500M
<$100M
- –2% 5%
Notes: Excludes add-ons, loan-to-own transactions and acquisitions of bankrupt assets; represents year deals were announced; includes announced deals that are completed or
pending, with data subject to change
Source: Dealogic
Global Private Equity Report 2015 | Bain & Company, Inc.
Page 14
up in PE portfolios, including four on the top 10 list. Sponsor-to-sponsor transactions rounded out the list of
the biggest deals announced in 2014. Meanwhile, sales of privately held companies, typically smaller transactions,
remain a mainstay of the industry.
As in Europe and North America, Asia-Paci?c–focused PE funds labored hard to put capital to work in 2014. At
$81 billion invested in more than 700 deals, the topline number on the total value of completed transactions in
the region set a record for the industry. But a more nuanced picture emerges if you look just beneath the surface:
A handful of mega-growth deals, each valued in excess of $1 billion and most originating in Greater China,
accounted for one-third of the year’s total deal valuation.
Traditionally and overwhelmingly, PE deals in Asia-Paci?c markets have been limited to purchases of minority
positions through private investments in public equities (PIPEs). Re?ecting both the markets’ increasing maturity
as well as investors’ sense that they need to take measures to protect themselves in today’s pricey deal market,
however, more PE funds are looking to acquire suf?ciently large stakes in the companies in which they invest to
gain some degree of operating control or, at least, to put themselves on a path to control. Although minority stakes
still dominate PE deal making in the Asia-Paci?c region, GPs appear to be increasingly successful in their efforts
to gain board representation, decision rights in the hiring or ?ring of key managers and a say in the company’s
large capital investment decisions.
The ?erce competition for deals has led PE ?rms around the world to roam beyond their normal hunting grounds
in search of new investments. Big buyout funds, for example, are pushing into the middle market. Worldwide in
2014, one out of every ?ve buyouts valued at between $250 million and $500 million involved at least one of the
15 largest GPs. In comparison, only one out of every eight middle-market deals attracted the biggest players at
the height of the previous PE cycle.
Hunger for deals has led PE ?rms to get creative. Some buyout funds appear to be increasingly open to purchasing
minority stakes, even when that means sacri?cing the control buyout GPs usually insist on having to build value in their
portfolio holdings. In October 2014, for example, TPG purchased a minority stake in GreenSky Trade Credit, a
US-based home improvement ?nancing company, for about $150 million. Other funds are investing in convertible
securities. Aeropostale, the struggling teen-clothing retailer, issued $150 million in convertible preferred stock
in 2014 to Sycamore Partners, a New York–based PE ?rm specializing in consumer and retail investments. The
investment gives Sycamore the right to increase its existing 8% stake in Aeropostale by an additional 5% and moves
the ?rm closer to its rumored ultimate goal of a takeover of the business. PE ?rms are even creating their own
businesses in order to put capital to work. Partnering with other investors early last year, for example, Goldman Sachs
provided start-up capital to launch Global Beverages & Foods in India. A. Mahendran, a serial entrepreneur with
deep experience in building consumer brands, will lead the new consumer products company. PE investors
are also showing a renewed interest in the “buy and build” strategy of making add-on investments to complement
a company they already own.
With heightened competition for assets raising multiples paid on new deals to record levels, PE ?rms are challenged
more than ever to generate outsized returns. GPs will need to earn their success by controlling what they can.
This includes becoming more creative in sourcing attractive transactions that offer unpriced value. GPs will also
need to take on risks that they are comfortable underwriting in their search for great performance.
Global Private Equity Report 2015 | Bain & Company, Inc.
Page 15
PE funds learn to dance to a slower Brazilian beat
In a world over?owing with capital to invest and cutthroat competition for deals in the aftermath
of the global ?nancial crisis, Brazil beckoned PE ?rms as a land of opportunity. The biggest market
in Latin America and the gateway to that still largely untapped region, Brazil boasted healthy GDP
expansion and rapidly rising household wealth, which enticed more than a dozen prominent global
buyout ?rms—among them, Actis, Carlyle Group, General Atlantic, TPG and Warburg Pincus—to plant
a ?ag there since 2007.
PE has sunk solid roots in Brazilian soil, but as has been the case in most dynamic young markets,
investors have had to adapt to fast-changing conditions. Brazil’s economy has slowed dramatically
since 2010 and ?irted with recession last year. Consumer income growth stalled and investor con?dence
sank amid the political uncertainty that surrounded the presidential election and large government
de?cits. The Bovespa stock index slid more than 20% over the past four years.
Meanwhile, dry powder continued to pile up. As 2014 began, PE funds were sitting on $4.7 billion
in capital commitments earmarked speci?cally for investment in Brazil, with a portion of another
$6.6 billion that had been targeted at South America likely ending up in Brazil. Three notable new
fund-raisings that closed during the course of the year—Advent International’s $2.1 billion, Pátria
Investimentos’s $1.8 billion and Gávea Investimentos’s $1.1 billion—dramatically increased Brazilian
PE’s capital overhang. Canada Pension Plan Investment Board, a major institutional investor; GIC,
Singapore’s sovereign wealth fund; and Tiger Global Management, the big hedge fund, also revved
up their search for PE deals in recent years.
Against that challenging backdrop, however, new PE deal activity held up surprisingly well. PE’s
continued strength stems from the bifurcated nature of the Brazilian market, which gives PE a seat
at the table in both good and bad economic times. Brazil’s economy is split between a relatively small
number of big, state-owned businesses and large, often public, companies, on the one hand, and the
vast majority of small, midsize and privately held companies, on the other. When looking for growth
capital, Brazil’s smaller businesses have few options. The public equity markets are unreceptive to
new offerings, and bank lending is either unavailable or very expensive. Private equity is often the
best source of new funding for these entrepreneurs.
In 2014, PE funds tacked to the shifting economic winds. In all, PE investors closed 56 deals last
year—fewer than the 66 transacted in 2013 but more than the 46 completed in 2012. Indeed,
successful PE deal makers managed to leverage the sluggish economy to their advantage. The
persistent gap in asset valuations between buyers and sellers, which had been a challenge to PE
deal making, narrowed considerably.
Successful deal makers are looking for potential deals outside of Brazil’s major urban centers and
capitalizing on their deep networks of local relationships to turn up proprietary opportunities. For
example, managing directors at Actis, a seasoned leader among PE ?rms that focus on emerging
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Returns: Mind the gap
The bar is always set high for PE returns. Long experience has accustomed LPs to expect that PE will remain their
best performing asset class. But as recently as just a few years ago, their con?dence that GPs could deliver on those
high expectations was badly shaken. PE returns lagged the public equity markets through 2009 and 2010, and
worries mounted that PE investments made during the boom years would end up being a disaster.
Today, however, PE is back. Riding the tailwinds of sharply higher public equity markets, PE returns roared
ahead in 2013 and had another strong showing through midyear 2014, according to the latest data available at
the time of publication. A cascade of capital is ?owing to PE investors. A recent survey by Preqin found that just
one out of every 12 LPs felt that PE failed to meet its expectations compared with one in four surveyed in July
2009. A wave of market beta—a heady mix of GDP growth, near-zero interest rates and covenant-lite loans, and
rising mark-to-market valuations—helped power PE’s rebound. GPs also had a starring role in the recovery,
markets, patiently courted the owners of Genesis Group—a major provider of inspection, certi?cation
and compliance services to the Brazilian agribusiness sector—after extensive research put the company,
located in the interior of the state of Paraná, on its radar.
Applying the same lessons for deal making in a slow Brazilian economy should serve PE funds well
in 2015, when GDP growth is forecast to be no better than it was last year and a further devaluation
of the real is anticipated. Companies suffering from ?nancial distress could generate re?nancing
and consolidation opportunities for PE. A dormant IPO market may incline entrepreneurs who are
looking to raise new capital to turn to PE for bridge investments that will tide them over until conditions
for new public offerings improve. And the currently low value of the public equity markets may present
opportunities for PE funds investing in public company shares to pick up bargains. PE investors should
continue to ?nd deals in sectors that are less tied to the growth themes that ?rst attracted them to
Brazil, such as rising consumer spending, by targeting assets that are more insulated from the
business cycle—like education, agribusiness, infrastructure and healthcare.
The major shadow hanging over Brazilian PE in 2014 has been constricted exit channels. With
IPOs off the table and just a few sponsor-to-sponsor transactions taking place last year, purchases
made by corporate acquirers presented the rare bright spot for PE exits. Though there were not
many sales to strategic buyers, those that occurred commanded strong valuations and produced
sizable returns. For example, GP Investments’s sale of Sascar, a leading ?eet management and
cargo tracking company, to tire company Michelin in 2014 generated a return of 2.6 times equity
within three years.
Unlike in other emerging markets, where PE money goes in but rarely comes out, Brazilian PE funds
have been able to sell assets and return capital to LPs even under dif?cult economic and market
conditions. PE ?rms’ continued ability to do so in what is shaping up to be another challenging exit
environment in 2015 will be an important test of their future fund-raising prowess.
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Page 17
Figure 1.13: Short-term returns continued to climb through mid-2014
–60
–40
–20
0
20
40
60%
2004 05 06 07 08 09 10 11 12 13 14
Buyout Growth equity Venture capital Distressed Mezzanine Real estate
One-year end-to-end pooled net IRR (global funds)
Source: Cambridge Associates
One-year horizon ending in June
through smart financial and operational restructuring of assets that fortified them against the economic
storm and positioned them to benefit from the recovery. Together, the combination of market beta and the
alpha of active value creation engineered PE’s resurgence. PE returns are up both in the short run and over the
longer term.
The strong returns story re?ects solid fundamentals of robust exit markets and valuation gains on PE funds’ portfolio
holdings. But as we shall soon discuss, a disquieting concern lurks just beneath this shining surface. PE’s long-
term performance edge over investments in the public equity markets appears to be diminishing in recent fund
vintages. A gradual erosion in PE’s overall competitive advantage has important implications for PE investors.
LPs had good reason to cheer PE’s performance through the ?rst half of 2014, the latest results available at the
time of publication. According to data compiled by Cambridge Associates, an investment consulting ?rm, nearly
every major category of PE matched or exceeded the strong double-digit one-year gains racked up in 2013 (se
Figure 1.13). Buyout funds climbed 23%; growth-equity funds were up 25%; and venture capital funds came
in 30% above the previous year. Across the major geographic regions, buyout and growth-equity funds gained
24% in both the US and in the developed economies of Europe over 2014 through midyear; emerging-market–
focused funds posted a modest 5% uptick.
The strong short-term fund returns ?owed from two powerful streams: from the healthy gains funds realized
through asset sales in a buoyant year for exits, as well as from the appreciation in the carrying value of assets
that remained unsold in PE portfolios. The unrealized gains, the result of mark-to-market accounting adjustments,
have been an especially important contributor to the solid one-year results. Despite robust exit activity in
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Page 18
recent years that has shrunk the once-long overhang of unrealized PE portfolio holdings acquired during the
boom years from 2005 through 2008, the value of all unrealized PE assets currently stands at a record $2.6 trillion
through June 2014, 50% more than at year-end 2010. The value of unrealized assets held in buyout funds now
stands at $942 billion.
Indeed, notwithstanding short-term swings in the public equity indexes, portfolio valuations for nearly every type
of PE holding have increased each quarter since September 2011. Only mezzanine funds and venture capital
funds experienced brief write-downs before rebounding.
A healthy recovery in longer-term PE returns mirrored the good short-run gains. Having hit a low of an 8.8% return
at the bottom of the PE cycle in 2009 and 2010, the return for global buyout funds over a 10-year time horizon has
trended gradually upward over the past four years, standing at 14.4% as of midyear 2014 (se Figure 1.14).
Stronger-than-expected returns from the big buyout fund vintages of 2005 through 2008 have contributed to the
recovery. Acquired at high prices in the years immediately preceding the global ?nancial crisis, asset valuations
of these large fund vintages took a huge hit when the public equity markets tumbled. GPs were obliged to stretch
out holding periods as they nursed assets back to health and gradually harvested gains. That work is well under way
for the oldest boom-year vintage: The 2005 funds have now remitted back to LPs 99 cents for each dollar of
original equity capital invested.
Figure 1.14: Long-term buyout-fund returns remain strong, at better than 14% annualized over 10 years
Source: Cambridge Associates
0
5
10
15
20
25%
1998 99 00 01 02 03 04 05 06 07 08 09 10 11 12 13 14
10-year end-to-end pooled net IRR (global buyout funds)
10-year horizon ending in June
Global Private Equity Report 2015 | Bain & Company, Inc.
Page 19
The recovery of the public equity markets has further helped the healing process, enabling GPs to mark up the
boom-year vintage holdings that remain in their portfolios to reflect their regained value. Because GPs are
generally conservative in their mark-to-market revaluations (they don’t want to surprise LPs with bad news in the
event they may later be required to discount some of the accounting gains they previously booked), these portfolio
gains likely understate what the boom-year vintage funds will ultimately yield.
The big boom-year vintages are back on track to deliver solid results (se Figure 1.15). Including both realized
and unrealized gains, the pooled returns of the median 2005 vintage buyout funds rebounded from minus 1.8%,
where they bottomed out by the end of the ?rst quarter of 2009, to 8% by the middle of 2014. The story for the
big 2006 and 2007 vintage buyout funds is much the same. Median returns for the 2006 buyout funds have
recovered from minus 18% at year-end 2008 to 8.6% in mid-2014; for the 2007 vintage, median returns snapped
back from minus 21.1% at year-end 2008 to 10.6% in the most recent accounting.
The public market benchmark: Good compared to what?
The truest test of PE performance is how returns—net of fees and carry—compare with those of the best alternatives
available. Indexes of publicly traded equities make reasonable benchmarks, but for the comparisons of returns to
be meaningful, they must explicitly acknowledge that PE investments are, by and large, lumpy and illiquid. Any
comparison must also recognize that PE is a long-term investment and the revaluation of portfolio holdings plays
a large role in determining short-term PE returns. Fortunately, independent researchers and investment advisory
?rms have made such apples-to-apples comparisons possible, in recent years, through the development of a
Figure 1.15: The big boom-year vintages are on track to deliver solid gains
Buyout vintage 2005 Buyout vintage 2007 Buyout vintage 2006
Since-inception median net IRR
–40
–20
0
20
40
60%
Q
4
2
0
0
6
Q
4
2
0
0
7
Q
4
2
0
0
8
Q
4
2
0
0
9
Q
4
2
0
1
0
Q
4
2
0
1
1
Q
4
2
0
1
2
Q
4
2
0
1
3
Q
2
2
0
1
4
Since-inception median net IRR
Q
4
2
0
0
7
Q
4
2
0
0
8
Q
4
2
0
0
9
Q
4
2
0
1
0
Q
4
2
0
1
1
Q
4
2
0
1
2
Q
4
2
0
1
3
Q
2
2
0
1
4
–40
–20
0
20
40
60%
Since-inception median net IRR
Q
4
2
0
0
8
Q
4
2
0
0
9
Q
4
2
0
1
0
Q
4
2
0
1
1
Q
4
2
0
1
2
Q
4
2
0
1
3
Q
2
2
0
1
4
–20
–30
–10
0
10
20
30%
Median for top quartile Median for all
Notes: Vintage year is determined by year of fund’s first cash flow; return data for all vintages is global
Source: Cambridge Associates
Global Private Equity Report 2015 | Bain & Company, Inc.
Page 20
measurement standard called the public market equivalent (PME). Cambridge Associates has re?ned one such
proprietary measure, called modi?ed PME (mPME), to replicate the timing and size of PE investment ?ows—
including both purchases and sales—as if they had been invested, instead, in a basket of publicly traded stocks.
When stacked up against this benchmark, US-focused buyout funds underperformed the S&P 500 mPME over
a one- and a three-year holding period, equaled the mPME over ?ve years and then surpassed the index returns
over a 10- and a 20-year time horizon (se Figure 1.16). Europe-focused buyout-fund returns badly lagged those
of the European stock index mPME after just one year, but they began to overtake them by the third year and
continued to outpace the benchmark by widening margins over a ?ve-, a 10- and a 20-year investment horizon.
In the Asia-Paci?c region, the combined returns for buyout and growth funds surpassed public market gains
over all investment periods.
PE’s continued ability to outpace public market gains over the long term can no longer be taken for granted. That
performance edge has narrowed considerably for more recent vintage funds (se Figure 1.17). Among most US- and
Europe-focused buyout funds raised between 2006 and 2008—a cohort that has had suf?cient time to invest capital
and harvest realized gains—returns merely track those of the S&P 500 mPME and MSCI Europe mPME, respectively.
At this point, no one can know whether the more recent vintage funds will see their returns accelerate as they
mature and realize more of their gains through exits rather than mark-to-market revaluations. But as Figure 1.17
shows unambiguously, top-quartile buyout funds continue to maintain a sizable performance lead over the
benchmarks, as they have for all fund vintages virtually since the PE industry’s inception. There is more pressure
than ever on LPs to sort out who those top-performing GPs will be going forward.
Figure 1.16: Buyout funds have outperformed public markets in all major regions over longer time horizons
Notes: Europe includes developed economies only; Cambridge Associates’ mPME is a proprietary private-to-public comparison methodology that evaluates what performance would
have been had the dollars invested in PE been invested in public markets instead; the public index’s shares are purchased and sold according to the PE fund cash-flow schedule
Source: Cambridge Associates
US Europe
End-to-end pooled IRR (as of June 2014)
Investment horizon
0
5
10
15
20
25
30%
1
year
23
25
3
years
15
16
5
years
1919
10
years
14
8
20
years
13
8
Asia-Pacific
End-to-end pooled IRR (as of June 2014)
Investment horizon
0
5
10
15
20
25
30%
1
year
22
13
3
years
9
6
5
years
16
9
10
years
13
5
20
years
11
4
S&P 500 mPME US buyout funds
End-to-end pooled IRR (as of June 2014)
Investment horizon
0
5
10
15
20
25
30%
1
year
24
30
3
years
9
8
5
years
15
12
10
years
16
7
20
years
17
7
MSCI Europe mPME EU buyout funds MSCI All Country
Asia mPME
Asia-Pacific buyout
& growth funds
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Figure 1.17: Top-quartile funds continue to outperform, but for average funds the gap has narrowed
US buyout funds European buyout funds
Fund vintage
Since-inception pooled net IRR (by vintage year, as of June 2014)
0
10
20
30
40
50%
1998 99 00 01 02 03 04 05 06 07 08
S&P 500 mPME All funds Top-quartile funds
Fund vintage
Since-inception pooled net IRR (by vintage year, as of June 2014)
0
10
20
30
40
50%
1998 99 00 01 02 03 04 05 06 07 08
MSCI Europe mPME All funds Top-quartile funds
Notes: Europe includes developed economies only; vintage year is determined by year of fund’s first cash flow; vintages after 2008 were excluded because they have relatively
few investments and realizations; Cambridge Associates’ mPME is a proprietary private-to-public comparison methodology that evaluates what performance would have been
had the dollars invested in PE been invested in public markets instead; the public index’s shares are purchased and sold according to the PE fund cash-flow schedule
Source: Cambridge Associates
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Page 22
Key takeaways
• PE continued to ride the waves of a world awash in capital in 2014, making it a great time to be a seller, as
investors looking to put capital to work were eager acquirers of PE-owned assets. But it was a dif?cult time
to be a buyer, as a superabundance of capital in the hands of GPs and other investors—along with strong
public market valuations—stirred intense competition and in?ated asset prices.
• Buyout-backed exit activity hit record highs worldwide for both deal count and value. In 2014, sales to
corporate strategic buyers were up 13% by count and much more in value than in 2013, as several very large
assets traded. PE sellers took advantage of accommodating public equity markets to launch IPOs, which
increased in number by 20% over the past year, and to execute follow-on sales of shares by companies that had
previously held an initial offering. Sponsor-to-sponsor sales were up as well, but the strength of the strategic-
buyer and IPO channels limited how good a year it was for this exit channel.
• Global PE fund-raising was down 6% in 2014, but the drop was due more to the idiosyncrasies of the funds
that happened to be in the market than a sign of weakness. Just one mega-buyout fund exceeding $10 billion
closed in 2014, compared with ?ve in the previous year. LPs were ?ush with cash from increasing distributions
and continued to recycle capital into new PE funds. Although GPs’ supply of new fund offerings continued
to outstrip LPs’ demand by about two to one last year, more funds managed to reach their goals. Indeed, with
so much money in the hands of LPs, capital that could not ?nd a place in a fund offered by top-performing
?rms spilled over into other GPs’ funds.
• Buyout investment activity barely budged in 2014—up just 2% by count and down by the same percentage
in value. An increase in deals valued between $1 billion and $5 billion made up for the lack of mega-deals
last year. Low-cost debt ?nancing was readily available, and GPs were sitting on a mountain of dry powder
they were eager to put to work—more than $400 billion earmarked for buyouts at the start of 2014. But PE
?rms faced stiff competition for assets that came up for sale, and record-high valuations they were obliged
to pay left little room for GPs to hit their targeted returns.
• Buyout-fund returns increased through the ?rst half of 2014, boosted both by the pro?table sales of many
assets as well as by the higher mark-to-market valuations of unsold assets in PE portfolios. However, buyout
funds have underperformed the recent strong run-ups in the public equity markets. Only over longer 10- and
15-year investment horizons has PE outperformed public equities.
• PE’s performance edge vs. public market benchmarks has narrowed considerably for more recent vintage
funds. It remains to be seen whether the returns of funds from more recent vintages will accelerate as they
mature and realize more of their gains through exits rather than through mark-to-market revaluations. But
currently, only the top-quartile buyout funds continue to enjoy a sizable performance lead over the public
market benchmarks.
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2. What’s happening now: Dynamics that will shape PE in
2015 and beyond
Viewed from the safe shores of 2015, it is easy to forget how dire the prospects for the PE industry looked seven
tumultuous years ago as investors stared into the abyss of an imploding economy. The global ?nancial crisis
brought a screeching halt to the PE boom years—the unprecedented three-year run from 2005 to 2007 that
was characterized by mega-buyouts at record-high prices and sky-high multiples of EBITDA. The boom-year
deals were not only bigger, they also were more heavily leveraged. When the downturn hit, the industry was
primed for the calamitous fall that ensued, and few observers at the time expected anything less than widespread
disruption for nearly all PE funds’ portfolio companies and defaults for many.
How differently events have turned out. Successive years of near-zero interest rates and favorable credit conditions
enabled PE borrowers to re?nance their debt. Strong public equity market gains lifted the value of marked-down
PE assets. Robust corporate pro?ts and accommodating IPO conditions paved the way for pro?table exits. And
with waves of distributions resulting from pro?table portfolio realizations ?owing their way over the past few
years, LPs have restored their con?dence in PE and increased their capacity to commit to new PE funds.
Where does that leave PE today? Clearly, when well-founded expectations of an industry in trouble are so strongly
at odds with the ultimate reality of renewed vigor and health, there must be forces at work that have yet to receive
their full due. In this section, we highlight four forces that have exerted increasing in?uence over PE in recent
years and will likely weigh heavily in the industry’s evolution in ways that every PE investor will need to be aware
of in 2015 and beyond.
The ?rst of these is the vast global expansion of investors’ balance sheets, leading to capital superabundance and
total ?nancial assets of more than 10 times global real GDP. Totaling some $600 trillion in 2010, ?nancial assets
will increase by another 50% by the end of the decade, according to Bain’s Macro Trends Group projections
(se Figure 2.1). We will explain the role that capital superabundance played in boosting PE’s recovery following
the recession and how the continued swelling of ?nancial assets threatens to distort PE investment decisions and
magnify risks in the period ahead.
Next, we consider the challenge posed by “shadow capital” in the hands of LPs, the role it is playing in PE deal
making and how it is altering the characteristics and economics of the LP-GP relationship. Shadow capital is
enabling LPs to tailor PE investment programs to match their unique preferences—often looking to GPs with
whom they partner to provide active asset management, other times investing alongside GPs as co-sponsors and
occasionally investing independently of, and potentially in competition with, them.
We then size up the opportunities that PE ?rms will ?nd as they refocus on the US, the industry’s biggest and
most mature market. Currently, a rare oasis of improved GDP growth in an otherwise struggling global economy,
the US economy is bene?ting from unique sources of strength in its consumer, energy and technology sectors
that could provide a solid foundation for sustained expansion. But as we will see, the US is also PE’s most
competitive and expensive market for ?nding attractive investment opportunities. For PE ?rms to thrive on
American soil in coming years, they will require exceptional value-creation skills.
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Finally, we take up the challenges that LPs face today in identifying the most successful GPs to invest behind.
PE fund returns have become more compressed than ever before, the steady outperformance of leading PE
?rms is less consistent than in the past and longer holding periods are making it harder for LPs to rely on the
performance of a GP’s current fund as a guide for determining whether or not to commit to the ?rm’s next one.
The constellation of issues in?uencing PE at this crucial juncture in the industry’s development will exert its pull
throughout the year ahead and likely for years to come.
For better and worse, capital superabundance is here to stay
PE’s impressive rebound from the downturn subsequent to the 2008 global ?nancial crisis—along with the
factors that created the buyout boom and brought PE to the precipice in the ?rst place—has been a manifestation
of the enormous expansion of ?nancial assets that have been building up in the global economy for more than
25 years. The con?uence of several powerful trends, this capital superabundance is the product of ?nancial
engineering, high-speed computing and a loosening of ?nancial services regulations that supplanted the post–
World War II ?xed exchange-rate system with a system allowing rapid expansion of capital around the globe. The
resulting growth of ?nancial assets has been prodigious and relentless: Global ?nancial capital increased 53%
from 2000 to 2010, reaching some $600 trillion, and Bain’s Macro Trends Group projects that it will swell by
half again, to approximately $900 trillion, by year-end 2020.
The power of capital superabundance has roiled markets everywhere over the past two decades: It figured
prominently in emerging Asia’s growth and subsequent ?nancial crisis in the late 1990s. It helped in?ate the
Figure 2.1: The rapid growth of ?nancial capital has shaped the global economy—and PE—since the 1990s
Note: All figures are in real 2010 US dollars at 2010 exchange rates
Sources: International Monetary Fund, World Economic Outlook: Slowing Growth, Rising Risks, September 2011; Organisation for Economic Co-operation and Development;
national statistics; Bain Macro Trends Group analysis
Total world financial assets
0
200
400
600
800
$1,000T
1990
221
Growth
78%
172
2000
393
Growth
53%
207
2010
600
Growth
50%
300
2020
projected
900
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tech bubble in the US that evaporated in the subsequent crash that wiped out $5 trillion in market value. It
expanded the US housing bubble that peaked in 2006. And it played a lead role in PE ?rms’ ability to mobilize
large pools of capital, fueling the buyout boom years between 2005 and 2007.
As it approached a cyclical peak, global buyout deal value spiked from $293 billion in 2005 to $687 billion and
$673 billion in 2006 and 2007, respectively. Headline-grabbing mega-buyouts that exceeded $10 billion led deal
making at the apex of the expansion. Often takeovers of large publicly traded corporations, mega-deals accounted
for more than one-quarter of the boom-year totals in terms of value. PE buyers were willing to pay high prices
to win intensely competitive auctions, as average deal multiples climbed to 9.7 times EBITDA on US and European
leveraged buyouts in 2007. Lots of readily available debt capital helped pay for the takeovers, as buyers in the US
and Europe ?nanced leveraged buyouts using an average of 6.1 times EBITDA for their deals. But instead of
being set up for the success they worked so hard and paid so dearly to pursue, PE funds quickly discovered they
were poised for disaster when they were blindsided by the 2008 ?nancial crash.
How capital superabundance helped rescue PE following the downturn. As they surveyed the wreckage of the
global market meltdown and took stock of what lay ahead, PE investors found little cause for optimism. A trio of
formidable challenges loomed: massive asset write-downs mandated by mark-to-market accounting regulations,
seemingly impassable roadblocks at every exit channel and a towering wall of portfolio company debt re?nancings
needed to avoid defaults.
Each threat was potentially an existential one, and mega-buyout funds—those greater than $4.5 billion—were the
hardest hit. Write-downs on these big funds stripped an average 22% off their assets’ book value in the fourth
quarter of 2008 alone. Meanwhile, interest rates on the high-yield bonds and leveraged loans issued to ?nance
the purchase of these suddenly depreciated assets rocketed toward 20% and triggered covenants on some of
that debt. Any hope that GPs of these funds may have held for a pro?table exit from their beaten-down assets
dwindled away.
In the end, none of these challenges led to the industry’s downfall, thanks to the heretofore underappreciated
role of superabundant capital. Central bank programs unleashed a ?ood of liquidity that quickly brought rates
on high-yield bonds and leveraged loans back to prerecession levels. By July 2009, average rates on leveraged
loans fell to 8.4%—a drop of nearly 12 percentage points from their peak just seven months prior and about
where they had been before the crash. High-yield bond rates, which topped out at 22% in December 2008,
dropped by nearly half, to 11.5%, by August 2009. With debt investors desperately scouring for yield wherever
they could ?nd it, rates on leveraged loans and high-yield bonds issued by PE borrowers kept falling—to just
5.4% and 6.8%, respectively, by the end of 2014 (se Figure 2.2).
The benign interest-rate environment worked wonders in razing the wall of re?nancings that PE borrowers faced.
From where they stood at the beginning of 2009, when rates were near their peak and showed little likelihood
of coming down anytime soon, GPs were looking at the prospect of having to roll over ever-steeper amounts of
maturing high-yield bonds and leveraged loans through year-end 2014—if creditors were still willing to lend,
of course. Obliged to replace $13 billion in maturing US leveraged loans in 2010, GPs would face a daunting
sixteenfold increase in loans coming due in 2014, totaling some $513 billion over the ?ve-year period. Scaling that
steep wall of debt refinancings would have been painful for most PE portfolio companies and perhaps
ruinous for many.
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Page 26
Eager lenders and accommodating debt markets spared them that fate. As business conditions began to stabilize
by mid-2009 and creditors regained con?dence that the threat of widespread portfolio company defaults was
retreating, creditors’ hunger for yields outstripped their worries of default risk. By 2012, borrowers had managed
to level the wall of re?nancing down to a small fraction of its original size (se Figure 2.3). Rather than having
to worry about a potential credit crunch as they struggled to restructure debt, PE funds were buoyed by a ?ood
of liquidity.
Capital superabundance also quickly helped revive the valuations of PE funds’ portfolio holdings by lifting public
equity prices. As buyout-fund GPs revalued their portfolios to re?ect stock market gains, net asset valuations climbed
nearly every quarter since the ?nancial crisis hit with the brief exception of the third quarter of 2011, when Europe’s
sovereign debt crisis ignited fears that the eurozone would slide back into recession (se Figure 2.4).
With rising valuations powered by broad market beta, worries of massive PE defaults soon subsided. Examining
337 companies owned by the 14 largest PE sponsors, Moody’s, the credit-rating agency, discovered that the
annualized 6% default rate between 2008 and 2013 of the PE-backed companies in the sample was a shade lower
than that of similarly rated companies that were not in PE hands.
The period following the downturn had its share of notable multibillion-dollar PE defaults. However, failures had
little to do with the size of the portfolio company or how much leverage the buyout fund GPs used to ?nance it.
The chief reason for many of the PE defaults associated with the ?nancial crisis was the fact that the companies
that stumbled were not well positioned for success from the start. The downturn did not cause these deals to fail;
it merely hastened their downfall.
Figure 2.2: The rapid drop in interest rates since 2009 and yield-hungry creditors helped portfolio
companies skirt default
Sources: Merrill Lynch; PIMCO; Bloomberg; S&P Capital IQ
5-year US Treasuries
Emerging market bonds
10-year US government bonds
Leveraged loans
Investment-grade bonds
High-yield bonds
Jan
04
Jul
04
Jan
05
Jul
05
Jul
06
Jan
06
Jan
07
Jul
07
Jan
08
Jul
08
Jan
09
Jul
09
Jan
10
Jul
10
Jan
11
Jul
11
Jan
12
Jul
12
Jan
13
Jul
13
Jan
14
Jul
14
Dec
14
0
10
15
20
25%
5
Yield
Global Private Equity Report 2015 | Bain & Company, Inc.
Page 27
Figure 2.3: The “wall of re?nancing” worries that once looked insurmountable have been overcome
Figure 2.4: Steadily increasing asset valuations have boosted PE buyout portfolios since the ?nancial crisis
Source: S&P Capital IQ LCD
Heading into 2009, PE portfolio companies faced massive debt
repayments and the threat of widespread defaults . . .
. . . but through repayments and refinancings,
they quickly brought debt under control
0
100
200
$300M
US leveraged loan maturities by year
(as of December 31, 2008)
2010
13
11
29
12
76
13
173
14
221
15
55
0
100
200
300
400
$500M
US leveraged loans set to mature
between 2012 and 2014
Dec 31, 2008
2012
2013
2014
Dec 31, 2010 Aug 10, 2012 As of
Source: Preqin
Change in NAV from previous quarter (global buyout funds, weighted)
–20
–10
0
10%
Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2
2008 2009 2010 2011 2012 2013 2014
Global Private Equity Report 2015 | Bain & Company, Inc.
Page 28
The experience of the past several years con?rms patterns about deal success and failure that Bain & Company
has seen developing for a long time. Bain has been co-investing alongside clients in deals for more than 20 years.
Combing through this extensive set of deals with which Bain is intimately familiar, we have identi?ed a set of
winning factors that correlate with deal success. Winning factors include characteristics such as a high market
growth rate for the relevant sector in which a target company competes and opportunities to expand into an
obvious product or geographic adjacency. Bain has found few deals that achieved unambiguous success in the
absence of at least one winning factor—and the more of these factors there are, the more potential ways for a
deal to win. Bain has also documented several “warning beacons” that are highly likely to undermine a deal’s
success, even if only one is present. One such indicator of trouble is to underestimate the impact of competitive
challenges that disrupt a target company’s business model. That is what scuttled Apollo Global Management’s
$1.3 billion buyout of Linens ‘n Things in 2006. The big-box housewares chain failed to adjust to the rapid shift in
consumer spending to e-commerce and away from brick-and-mortar stores, leading the company to file for
bankruptcy in 2008.
Ultimately, buyouts from the boom years preceding the market crash fell into three distinct groups. The obvious
winners were deals that had one or more winning factors and no warning beacons; barring unforeseen shocks,
such as terrorism or natural disasters, these assets were highly likely to be successful from the outset. Clear losers
lacked winning factors and had at least one glaring warning beacon; they were unlikely to succeed, irrespective
of business-cycle or ?nancial market conditions. The third category of deals had characteristics that made them
neither especially good nor particularly bad, and this group bene?ted most from the helpful effects of capital
superabundance. Bought for high prices at the cyclical peak, these companies could easily have tipped into losing
territory had it not been for the surge of market beta that ultimately bailed them out.
PE funds husbanded their buyout assets through the downturn and rode a wave of market beta to successful exits
that, while taking longer than the three- to ?ve-year holding periods envisioned at their time of purchase, were
unanticipated just a few bleak years before. As public markets recovered, the door for IPOs reopened and the
con?dence of strategic corporate buyers rebounded. The overhang of exits from boom-year holdings gradually
began to recede. By the middle of 2014, PE funds had at least partially realized gains from the vast majority of
buyouts they had made during the boom years (se Figure 2.5). The small numbers of unrealized investments
made in 2008 or earlier that still populate their portfolios are not in great shape. Fewer than half of these deals
are valued at more than the original equity invested (se Figure 2.6). But even in the best of times, there are
losing deals in PE.
How capital superabundance could burn PE investors going forward. The continued expansion of ?nancial
assets looks to be an enduring feature of the investment environment that PE ?rms will need to reckon with for
a long time to come. However, the force that they exerted to propel the PE industry to new heights since the
downturn will not be tugging so favorably in PE investors’ direction as the current expansion ages—or as future
ones unfold.
In fact, the very forces that rescued the boom-year investments—record low interest rates and plentiful capital—
are magnifying two issues that are making it more challenging for GPs to pro?t from investments they make
today. First, asset prices are and will remain high as investors of all types wielding record amounts of capital,
including GPs sitting atop mountains of dry powder, are willing to bid up acquisition multiples to acquire assets.
The plentiful low-cost debt thanks to capital superabundance in the hands of yield-hungry creditors merely adds
upward pressure on prices and ensures they will stay high.
Global Private Equity Report 2015 | Bain & Company, Inc.
Page 29
Figure 2.5: Wide-open exit channels enabled buyout funds to escape the shadow of the exit overhang
Notes: Includes deals made globally by buyout funds between 2000 and 2013; data as of Q2 2014
Source: Cambridge Associates
Percentage of deals invested in (by count)
Fully realized deals Partially realized deals Unrealized deals
0
20
40
60
80
100%
04 05 06 07 08 09 10 11 12 13
Year of deal investment
Pre-2004
Figure 2.6: There are plenty of unrealized gains still locked up in PE portfolios, particularly from recent
years’ investments
Notes: Includes unrealized deals made globally by buyout funds between 2000 and 2013; data as of Q2 2014
Source: Cambridge Associates
Percentage of unrealized deals (by count)
Write-off <1X 1–2X 2–3X 3–5X >5X
0
20
40
60
80
100%
2006 2007 2008 2009 2010 2011 2012 2013
Year of deal investment
2004
&
2005
Global Private Equity Report 2015 | Bain & Company, Inc.
Page 30
The second area where capital superabundance pinches is the longer holding periods that will be needed to prepare
fully priced assets for exits that can command decent returns. With GDP growth slower nearly everywhere and
further beta-driven multiple expansion from the public equity markets limited, the era of three-year holding
periods is not likely to come back. PE funds have little incentive to sell an asset until they have at least doubled
the equity they invested. Thus, simple mathematics suggest that holding periods of ?ve years or more look to be
the new norm; it takes at least that long to achieve a twofold return on invested capital at IRRs trending toward
the mid-teens that we are currently seeing prospective acquirers use as their underwriting target.
Further complicating the superheated PE investment climate at a time of capital superabundance is the increased
likelihood that the deals GPs undertake today will experience a turn in the business cycle during their hold period.
Nearly six years have passed since the US economy hit the bottom of the last recession (se Figure 2.7). Given
an expected ?ve-year holding period for a majority of assets, GPs contemplating an investment should consider
that they may need to ride out a downturn that could persist for a year or more. There is no guarantee that the
monetary and ?scal medicines that worked in the last downturn will be as effective next time around.
Getting right with capital superabundance: A GP’s guide
Since the ?nancial crisis hit in late 2007, the big role played by the global expansion of ?nancial assets has cut in
important—but opposite—directions. In the immediate aftermath of the downturn, superabundant capital helped
keep interest rates low, which aided PE funds as they restructured their debt and surmounted the wall of re?nancing.
Figure 2.7: With holding periods stretching out to ?ve years or longer, GPs must weigh future recession risks
Note: Current expansion period is still in progress
Sources: National Bureau of Economic Research; Bain analysis
Length of US expansion and recession periods (in months)
–50
0
50
100
150
27
–13
21
50
–13
80
–8
37
–11
45
–10
39
–8
24
–10
106
–11
36
–16
58
–6
12
–16
92
–8
120
–8
73
–18
68
J
u
l
1
9
2
4
–
O
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2
6
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–
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2
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–
A
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A
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9
–
M
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–
M
a
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5
Global Private Equity Report 2015 | Bain & Company, Inc.
Page 31
Valuations recovered as plentiful capital pushed asset prices higher on a swell of market beta. Now, however,
capital superabundance and low-cost leverage have pushed asset prices to new heights, extending holding periods
and stripping away the opportunities for GPs to expect market beta to boost returns.
The lesson successful GPs are drawing from this pattern of “same causes–different results” is that capital
superabundance is here to stay and they can no longer rely on beta to do the heavy lifting. Instead of waiting for
beta to do their work for them, they are stacking the odds in their own favor. Leading GPs are stepping up their
due diligence to ensure that they can identify the winning factors in a target company that can become the basis
for a value-creation plan that can withstand any economic or market climate. Bain research has found that for
companies acquired in deals where the acquisition price was high, the presence of more than one winning factor
was critical to their ultimate success. Indeed, in transactions where the price paid exceeded 10 times EBITDA,
Bain analysis found that the winners had an average of more than three winning factors.
Although GPs face a tough challenge, they can ?nd much to emulate in the experience of Hellman & Friedman, a
leading San Francisco–based buyout ?rm, and JMI Equity, a growth equity ?rm based in Baltimore. These ?rms
partnered to acquire Kronos in a public-to-private transaction in mid-2007. Paying $1.8 billion—some 17 times
EBITDA—for the business software developer, the partners identi?ed potential for continued growth beyond
Kronos’s core strength in workforce management software deeper into the adjacent area of talent management
that warranted the high price. The GPs backed up their conviction by supporting Kronos’s acquisition, in late 2007,
of Deploy Solutions, a provider of software used in the selection and hiring of job candidates. The move enabled
Kronos to broaden its portfolio of services and gain access to Deploy Solutions’s high-pro?le client base. By May
2014, Kronos became the ?rst vendor in its ?eld to surpass $1 billion in revenue. At the same time, its PE owners
recapitalized the business through a $750 million equity investment by Blackstone Group and GIC, the Singaporean
sovereign wealth fund, and arranged for Kronos to use part of the proceeds to pay Hellman & Friedman and JMI
Equity a special dividend. This transaction, combined with earlier dividend payments, has netted investors
more than ?ve times their initial equity investment. Today Kronos has an enterprise value of $4.5 billion, and
Hellman & Friedman and JMI Equity still own a majority stake in the company.
The power of capital superabundance over the fate of PE ?rms’ success reinforces the importance of exercising
due diligence that can quickly spot winning factors and warning beacons and having the capability to execute a
repeatable value-creation plan that can transform assets into top performers over and over again.
Shadow capital looms over PE
Institutional investors have been spreading their wings in recent years, experimenting with new ways to participate
in PE deals beyond the conventional constraints of being passive partners in PE funds. It’s a development that is
generating a lot of buzz in the PE community—and raising a host of sensitive issues for GPs. At the heart of the
discussion is the emergence of so-called “shadow capital”—the vast sums of money that institutional investors are
putting to work in new ways apart from their traditional role as limited partners in a PE fund—and the potentially
large part it will play in the evolving GP-LP relationship in the future.
Shadow capital is not a new phenomenon. LPs have been passively co-investing alongside GPs in deals for
years. But its gradual buildup over the past decade has gained momentum during the current PE cycle, and
now in a wider variety of forms, it is beginning to reshape the industry. Across all regions of the globe, several
leading endowments, public pension systems and sovereign wealth funds have stepped up their PE holdings
Global Private Equity Report 2015 | Bain & Company, Inc.
Page 32
as a percentage of total assets under management, from a weighted average of 6% in 2006 to 12%, according
to the most recent data available (se Figure 2.8). Many have had to look beyond the traditional limits of
investing in a PE fund in order to satisfy their bigger appetites for PE.
Shadow capital’s allure lies in the myriad ways it serves the long-term interests of LPs and GPs alike. For LPs, investing
outside of the conventional PE fund structure improves their prospects for boosting returns at lower costs. A recent
survey by Preqin, the PE data provider, found that 85% of LPs have realized bigger gains on their co-investments than
on their fund portfolios. Investing shadow capital also gives LPs greater control over where they put their money
to work. They are better able to time the market or gain greater exposure to speci?c industries and geographies they
like. LPs investing actively alongside GPs have opportunities to develop closer relationships with them and to gain a deeper
understanding of their operating style and strengths. It also enables LPs to develop their own internal capabilities, gain
experience in direct investment disciplines and acquire valuable knowledge about industries to which they may not
otherwise have access. With all of these positives to recommend it, it is little surprise that LPs expect shadow capital
to play an increasingly prominent role in their future investment plans (se Figure 2.9).
There is also a lot for GPs to like about how shadow capital investments complement their traditional relationships
with LPs. In a tough fund-raising environment, GPs can offer the opportunity to co-invest as a sweetener to
encourage a current LP to re-enlist in a new fund, sign on earlier or commit larger amounts. They can also use
co-investment as a lure to entice new LPs to make a ?rst-time commitment to their funds. The large checks they
accept to establish separate accounts deepen both GPs’ assets under management and their relationships with LPs.
Accepting shadow capital from LPs enables GPs to take on bigger deals without having to form hard-to-manage
syndicates with other PE ?rms that have fallen out of favor.
Despite the undeniable bene?ts that it offers both LPs and GPs, shadow capital also has the potential to shake up
the PE industry. To begin with, shadow capital injects even more money into the already saturated deal market,
increasing competitive intensity. The focus of much discussion today is the risk that more and more shadow
capital will end up competing directly against GPs for deals—disintermediating PE ?rms by making investments
that bypass them entirely. Yet, as we will discuss, a more likely outcome is shadow capital’s potential to chip
away at the PE industry’s economics at the margins.
LPs are exploring four principal alternatives for deploying shadow capital that run along a spectrum from
investments they depend on GPs to actively manage for them to those where they exercise greater independence.
Separate accounts. As they look for ef?cient ways to rationalize their PE exposure while managing larger investment
portfolios, sophisticated LPs are turning to PE ?rms for help. They are increasingly entrusting ?rms to oversee the
investment of additional assets held in customized accounts that have been set up on their behalf. According to
a survey by Preqin, 18% of LP respondents reported that they actively invest in PE via separate accounts. Another
25% of those surveyed expressed interest in moving in this direction. Altogether, GPs have raised some $128 billion
through more than 400 separate accounts over the past ?ve years, still a relatively small total compared with the
more than $2 trillion raised in PE funds over the same time period.
Rather than competing with GPs in their role as PE fund specialists, separate accounts enlarge their responsibility
to that of a more general asset manager. Under typical terms of the arrangement, the PE ?rm is able to tap money
it manages in these accounts to invest in buyouts or other predetermined PE categories as opportunities arise.
Global Private Equity Report 2015 | Bain & Company, Inc.
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Figure 2.8: Growing demand for PE has LPs looking at all options for putting capital to work in the asset class
Percentage of net assets invested in PE
2006 Most recent data available
Notes: Most recent reported data is from 2013 to 2015; Yale’s most recent data is its target for 2015, not actual; CPPIB includes all private equities (vs. public equities); 2006 data
for GIC is unavailable, so 2008 data is shown instead; GIC percentage includes PE, venture capital and infrastructure
Sources: Annual reports; Sovereign Wealth Fund Institute
0
5
10
15
20
25
30
35%
Yale WSIB CalSTRS CalPERS TRS CPPIB OMERS CDPQ OTPP ATP ABP Första
AP-fonden
GIC NPS
(Korea)
Most recent
weighted average
2006 weighted
average
US Canada Asia-Pacific Europe
Figure 2.9: LPs expect shadow capital to play a bigger role in their portfolios over the next ?ve years
Proportion of LPs’ PE exposure that is or will be through co-investment or direct investments
Source: Coller Capital, Global Private Equity Barometer, Winter 2014–15
0
20
40
60
80
100%
Now
0–9%
10–24%
25–49%
50–74%
75–100%
In 5 years
0–9%
10–24%
25–49%
50–74%
75–100%
Global Private Equity Report 2015 | Bain & Company, Inc.
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LPs and GPs have tailored some large and interesting relationships around separate accounts in recent years. For
example, the Teacher Retirement System of Texas (TRS) partnered in 2011 with Kohlberg Kravis Roberts (KKR)
and Apollo Global Management to set up a separate $3 billion account with each that aims to steer TRS’s capital
into buyouts, real estate and debt investments. In 2012, CalPERS, the pension plan covering California state
workers, placed $500 million in a Blackstone Tactical Opportunities account with a ?exible mandate to invest
across a wide range of asset classes. In Europe, Germany’s largest pension fund, Bayerische Versorgungskammer
(BVK), cemented its seven-year relationship with the UK-based PE ?rm Pantheon last year: The fund, which invests
on behalf of public-sector employees in the state of Bavaria, set up a €500 million dedicated account that will seek
out, among other things, buyout, growth and venture capital investment opportunities. This arrangement, which
will extend to 2017, will allow BVK to consolidate its holdings around a select core group of asset managers.
But for all of their many bene?ts to GPs, separately managed accounts present some risks. To attract that new
money, GPs are discounting the prices they charge for their services, reducing fees and carry from the standard
“two and twenty.” For many GPs, the trade-off of lower fees in exchange for a larger, steadier volume of assets
under management can look appealing, but accepting it can put GPs in a bind. By charging less, GPs can justify
holding assets longer and settling for lower returns, but if they fall too far short, they risk jeopardizing their
relationships with LPs. There is also potentially a price to pay for success. GPs that deliver performance in
discounted, separate accounts that meet or beat the returns they generate in standard funds risk cannibalizing
their premium-priced products. Why pay full price when there is little or no difference in results?
Co-investments. Accounting for roughly 10% of PE assets under management, co-investing is currently the most
common way for LPs to put shadow capital to work. Co-investing appeals to LPs that want to exercise more discretion
over where and how their money is deployed, without requiring the deal sourcing, due diligence and portfolio
management skills that a seasoned GP would be expected to possess. They also like the no-fee or lower-fee structure
that co-investing offers.
Increasingly, when GPs approach LPs to get them to sign on to a new fund, LPs are making the opportunity to
participate as co-investors a condition of their agreement. In a typical arrangement, a GP pitches opportunities
to LPs to put up money on a deal-by-deal basis. Co-investors can choose to actively select the deals in which they
will participate or simply agree to join forces with the PE ?rm in all of its deals. When it comes to selecting the
investment target or actually managing assets after they are acquired, however, the co-investor’s role remains a
passive one: It is the PE ?rm functioning as a conventional GP that sits in the driver’s seat.
Co-investing has attracted increased attention in recent years as LPs have gained con?dence in the higher returns
it can yield. As recently as 2012, of the LPs that Preqin interviewed, only 13% believed that returns from co-investment
were signi?cantly better than those of a typical PE fund. In Preqin’s latest round of interviews in March 2014, 52%
of LPs reported that their co-investment returns were far higher than the returns their funds generated and none
said that they were lower. With that proven track record, 77% of the LPs said they are now co-investing and more
than half said they planned to do more of it in the future (se Figure 2.10).
With experiences like that, it is easy to understand why co-investing has gained popularity. But as promising as
it looks, co-investing programs have dif?culty accommodating everyone’s goals. For their part, GPs cannot make
co-investment an option available on every deal or for every LP. To keep the trust of their LPs, they must set
transparent and clear rules for offering co-investment opportunities, but that is dif?cult to do since co-investment
Global Private Equity Report 2015 | Bain & Company, Inc.
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may not be practical for some deals. Co-investing today is full of gray areas in terms of the promises GPs are
prepared to make to LPs. Many are willing to offer it, but the speci?cs for how or under what circumstances they
will be able to follow through are not fully ?eshed out.
As for LPs, many that are drawn to the idea of co-investing as a good way to proceed lack capabilities needed to
process what GPs are offering and end up taking a pass. Sometimes the pro rata allocation in the co-investment
opportunity may simply be too small to warrant their participation. Other times, LPs need to be able to react to an
offer more quickly than their investment committee cycles permit. Still, co-investment seems to be here to stay,
because it is yet another way to align the interests of GPs and LPs, even though this application of shadow capital,
too, lowers prices and dilutes GPs’ economics.
Co-sponsorships. A transition to more active investing, co-sponsorships enable institutional investors to put
capital to work directly in businesses as equal partners with PE ?rms. In much the same way that PE ?rms
joined forces in club deals prior to the 2008 ?nancial crisis, large, independent-minded institutional investors
with an appetite for more direct participation in PE deal making are partnering with GPs to co-sponsor deals
of all types and sizes.
Recent co-sponsored transactions illustrate the range and breadth of this trend. In May 2014, for example,
Ontario Teachers’ Pension Plan, the large Canadian pension fund, teamed up with PE ?rms AEA Investors and
Fitness Capital Partners to acquire 24 Hour Fitness, a US-based chain of health clubs, from Forstmann Little.
Last June, Temasek, also a Singapore-based investment fund, co-sponsored a Warburg Pincus–led acquisition of
50% of Santander Group’s custody business in Spain, Brazil and Mexico.
Figure 2.10: LPs’ search for better net returns has buoyed their interest in co-investing
77% of LPs surveyed are
already co-investing
87% of LPs plan to maintain
or increase co-investments
85% of LPs believe co-investment
returns are higher
Source: Preqin, “The State of Co-Investments,” Private Equity Spotlight, March 2014
Percentage of LPs Percentage of LPs Percentage of LPs
0
20
40
60
80
100%
LPs’ current level of
co-investment activity
LPs’ perception of co-investment
performance compared with that
of fund investments
LPs’ future plans for
co-investment activity
Considering
co-investing in
the future
Opportunistically
co-investing
Actively
co-investing
No plans to co-invest
0 0
20
40
60
80
100%
Significantly
better returns
Slightly better returns
Similar returns
20
40
60
80
100%
Increase
Maintain
Uncertain
Decrease
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Rather than a rivalry, co-sponsored investments that pair GPs and LPs can be a mutually bene?cial division of
labor, serving both parties’ interests. GPs gain access to deep pools of cash from sophisticated investors. A deep-
pocketed pension fund or a sovereign wealth fund willing to put serious money behind an asset purchase can
add the critical capital to make it possible for a PE fund to win a hotly contested auction. The LP partner gets to
leverage, and also learn from, the expert guidance of a GP partner seasoned in the disciplines of PE due diligence,
negotiation and post-acquisition value creation. Many institutional investors that participate in co-sponsorships
are using the experience to develop their own in-house PE deal-making capabilities.
As crucial as an LP’s capital can be to making an acquisition possible, co-sponsorship is still limited to a relatively
small number of institutions that have the scale and capabilities to take the leap into more active investing.
Co-sponsorships between GPs and LPs during the period between 2009 and 2014 accounted for less than 15%
of all deals with a price tag of more than $1 billion (se Figure 2.1). About 60% of these co-sponsorship deals
involved just four institutional investors.
As the GP typically takes the clear lead managing the co-sponsored asset post acquisition, this new type of club
investing is better positioned to create value than were the often rancorous GP-only consortium deals of the
recent past. But it is still far too early to determine how well co-sponsorships will work out. Just how good the
returns are will largely depend on the types of deals the co-sponsors do.
Solo direct investments. The shadow capital that is most apt to cause GPs to lose sleep is the money in the hands
of big LPs investing entirely on their own, independent of PE ?rms and potentially in direct competition with them.
Figure 2.1: Co-sponsorship is the leading form of LPs’ direct investment, particularly for larger deals
Notes: Includes deals with disclosed value; excludes real estate and infrastructure, PIPEs and add-on transactions
Sources: Preqin; Bain analysis
Percentage of buyout deals with disclosed values of $1 billion or more (2009–2014)
0
20
40
60
80
100%
By deal value
No LP involvement
Co-sponsors
By deal count
No LP involvement
Co-sponsors
LPs involved
CPPIB
GIC
Temasek
OTPP
CIC
OMERS
PSP
Other direct LPs
Direct (no GP) Direct (no GP)
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Looking just at the vast resources the biggest institutional investors and sovereign wealth funds can mobilize, it
is easy to understand GPs’ concerns. Bain & Company estimates that there may be no more than 100 institutional
investors—less than 2% of the overall LP base for PE—that have the heft and the ability to mount direct investment
programs, but they command considerable resources. Among leading organizations that have demonstrated an
interest in direct investing are big pension funds in Canada and sovereign wealth funds across the Middle East
and Asia (se Figure 2.12). Yet, while it is evident that these and other LPs’ interest in solo direct investing is
growing, the competitive threat this presents to GPs is limited.
There are real risks and challenges that any LP contemplating a direct investment program needs to reckon
with. To begin with, they need to recreate all of the capabilities and processes a PE firm possesses—from
sourcing their own deals and conducting rigorous due diligence to leading robust post-acquisition value-
creation plans and managing successful exits. Developing these skills, much less matching the experience that
world-class PE ?rms have attained over years in applying them, takes time and dedication. Above all, it takes
top talent to generate the returns that direct investing LPs aim for—even when they set their underwriting
target return at a relatively modest level of, say, 15%. LPs that go solo may be able to lure talented investors with
the attractions of a more sustainable lifestyle and perhaps an attractive location. However, they face challenges
holding onto star PE investment professionals because the compensation they offer does not match what
their GP competitors pay. Finally, direct investing offers less diversi?cation than committing capital to several
PE funds and far more accountability if a direct investment does not pan out, with no GPs to blame for
unsatisfactory results.
Figure 2.12: Big Canadian pension funds and SWFs dominate among LPs with direct-investment capabilities
Notes: This is not an exhaustive list; values are assets under management in US dollars based on Preqin data as of January 2015; SWF stands for sovereign wealth fund
Source: Preqin
OMERS
$55B AUM
Ontario
Teachers’
Pension Plan
$118B AUM
CPP
Investment
Board
$226B AUM
QIC
$60B AUM
Qatar
Investment
Authority
$170B AUM
Mubadala
$61B AUM
China
Investment
Corporation
$650B AUM
Korea
Investment
Corporation
$75B AUM
GIC
$320B AUM
Caisse de dépôt
et placement
du Québec
$179B AUM
Sample of direct LPs
Temasek
Holdings
$167B AUM
Alberta
Investment
Management
Corporation
$68B AUM Khazanah
Nasional
Berhad
$38B AUM
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LPs that are currently undertaking direct investment programs recognize the need to proceed with caution. The
evolution of the direct program under development by the Toronto-based Canada Pension Plan Investment
Board (CPPIB) illustrates the deliberate approach these careful investors are taking. CPPIB began investing in PE
in 2001, focusing on building its relationships with GPs as a “preferred investor.” By 2004, its overseers set their
sights on increasing its participation on co-investing and direct investing, primarily as co-sponsors partnering with
fund managers to help them. By 2007, CPPIB created a dedicated “principal investment” (PI) team—an in-house
group to manage its direct investments in PE and natural resources, which then totaled about C$1 billion. Since
2008, CPPIB has aggressively scaled up its direct investment efforts, staf?ng its increasingly expert in-house group
with 35 senior PI professionals and adding of?ces in London, Hong Kong and São Paulo. By the end of last year,
its direct PE portfolio had grown to 31 investments valued at C$11.6 billion, or 59% of its PI program. Despite
opportunistically taking the lead role in transactions, however, CPPIB continues to execute direct investments
primarily through co-sponsorships.
The caution practiced by LPs investing directly on their own is also evident in the types and sizes of deals they
have made to date. The LPs have concentrated their investments in four areas. First, they are cutting their teeth on
smaller deals, seldom exceeding $1 billion, and tilting toward growth investments, minority stakes or private
investments in public equities rather than buyouts. Second, they have been inclined to target low-risk investments
in stable companies that have reliable cash ?ows and strong management teams. Third, they favor deals where they
enjoy a home-?eld advantage, using their information edge to partner with local companies, often in pursuit of
regional development programs. Finally, some institutional direct investors, particularly sovereign wealth funds in
Asia and the Middle East, pursue deals that are in?uenced as much by the strategic goals of the sovereign entity
on whose behalf they invest—in such areas as ?nancial services, energy, telecom and infrastructure—as by
?nancial outcomes. Within each of these four core direct investment areas, institutional LPs may enjoy unique
competitive advantages over GPs.
Learning to live in the shadow: Lessons for GPs
The global superabundance of capital—and the in?uence of shadow capital on PE investing to which it has
given rise—are realities that PE firms will need to accommodate for the foreseeable future. Their ongoing
challenge will be to fend off pressure to reduce prices for their services and to ?nd new ways to partner with
LPs, which benefit both parties. Their best defense in this battle will be to mount a great offense—simply
generate high returns. Top-performing GPs will be able to command the prices they deserve and capture the
assets under management they desire. Others will ?nd that these new forms of partnering generally require
them to concede to LPs on price while doing the same work they did in the past. For the bottom performers
that struggle to raise capital, shadow capital offers no salvation. Poor results are not worth having at any price.
For LPs, shadow capital does not substitute for fund investing but augments it. The incentives for both sides
to collaborate rather than compete are powerful. Even as they spread their wings and begin to invest more
independently, LPs need GPs to help them put capital to work and demonstrate the disciplines for success. As
LPs that mount direct investment programs learn from ?rst-hand experience what it takes to succeed as value
creators, they are likely to develop renewed respect for the PE professionals who can generate winning returns
over and over again.
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Refocusing on America
Discriminating PE investors have a long list of attributes they look for when deciding where they will put money to work.
Their preference to invest where legal protections are strong, capital markets are liquid and corporate governance is
transparent has long attracted them to the developed economies of Europe and North America. When the global
?nancial crisis chilled the economies of the West, PE investors’ appetites for novelty, an entrepreneurial culture and vast
growth potential lured them to seek out opportunities in the emerging markets of Asia-Paci?c, Latin America and Africa.
But at a time when political, economic and social uncertainties are running high—as they are in most markets
around the world today—PE investors are re?exively taking steps to reduce their risk exposure. Most European
economies are slumping, as sovereign debt woes, de?ation pressures, currency instability and near-zero GDP growth
threaten to break up the eurozone. China’s growth is highly volatile as it attempts to manage the difficult
transition from the rapid expansion and investment that characterized its boom years to a more balanced
growth model. War, social upheaval and tumbling oil prices have sent economies across Russia, Central Asia and
the Middle East into free fall.
A ?ight to quality has made the US a renewed focus of investors’ interest, with PE investors prominent among
them. In striking contrast to trends elsewhere, macroeconomic signals are ?ashing green across North America.
After years of sluggish recovery since the 2008 recession, US job growth rebounded strongly in 2014. Consumer
con?dence and capital spending are turning up. Unemployment and government budget de?cits shrank, and the
US dollar is trading near its highs against other major currencies. The combination of an already strong dollar
and sustained low in?ation in the US, and the pursuit of expansionary monetary policies by central banks in
Europe, Japan and China, will likely hold any interest rate increases by the Federal Reserve in check. Against that
backdrop, the outlook for credit conditions remains auspicious for ?nancing PE buyouts.
It is not only the customary business cycle indicators that point to a revival of the US economy. Analysis by Bain &
Company’s Macro Trends Group shows four durable sources of growth that could help power the US economic
expansion deep into the rest of this decade and potentially beyond—engines that could help keep the economy
humming for an entire PE buyout cycle. The ?rst is the rebound of the US consumer, particularly middle-income
households that bene?ted from the Fed’s low interest rate policies, which helped rein?ate housing prices, the
principal source of middle-class wealth. Hit hard by the recession, these consumers are opening their wallets again.
The second source of growth is demographics, speci?cally the coming of age of the vast population of younger
adults born after 1980, who are entering their prime household- and family-formation years. Some 81 million
strong, this generation is bigger than the baby boomer generation, with 76 million Americans who have largely
passed their peak earning years or are entering retirement. The third force powering the economy is the juice
provided by the energy sector. Now one of the world’s top oil and natural gas producers, thanks to the shale drilling
revolution, much of the US energy industry can operate pro?tably even at today’s prices. Meanwhile, US energy
consumers will see savings from lower fuel costs ?ow straight into their pockets and to their bottom lines—a spur
to consumption and investment. The ?nal growth factor is the emerging advances in robotics, nanotechnology,
genomics, arti?cial intelligence and ubiquitous connectivity, which are just hitting the new product lines of big
corporations and the radar screens of venture capitalists.
As a new high tide of global capital starts to ?ow to US shores in search of promising opportunities, PE investors
will ?nd a market that is not only deep and welcoming but also mature and intensely competitive. As PE’s home
turf dating back to the leveraged buyout days of the 1980s, the US has long attracted the lion’s share of capital
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raised for buyouts and continues to do so. Over the past decade, money pouring into US-focused buyout
funds has accounted for 56% of the world’s total (se Figure 2.13). Indeed, as buyout fund-raising began to
recover from the depths of the global financial downturn, US-focused funds have seen their share steadily
climb—to 63% of the total in 2014.
The magnet for that capital is the vast pool of sizable companies operating in the world’s most open economy
(se Figure 2.14). The capacity of the US economy to absorb capital is another of its many attractions to
PE investors.
Having exposure to the US market has been crucial for LPs that aspire to build a top-tier PE program. Even as PE
has spread beyond the US and Europe to other regions around the world since the late 1990s, US-oriented buyout
funds have led the elite list of funds, generating a net annual return of 15% or more (se Figure 2.15). Recent
vintage buyout funds targeted at US investments have continued to punch well above their weight. US-focused
funds from the 2007, 2008 and 2009 vintage years made up less than half of their peer global buyout funds
worldwide, but they comprised 70%, 75% and 55%, respectively, of the world’s top-performers within their vintages.
It is little wonder, then, that the US tops the rankings of attractive PE markets in surveys of LPs.
Yet, even with the economic winds expected to be at GPs’ backs in the period ahead, ?nding compelling deal
opportunities at valuations that work and converting them to top-quartile winners will require extraordinary
investment discipline. PE has already penetrated deep into the available pool of companies. Among middle-market
businesses with an enterprise value of between $100 million and $500 million, for example, Bain & Company
found that PE ownership increased from 8% of companies in 2000 to 23% in 2013—nearly one company out of
Figure 2.13: The majority of buyout capital raised globally has been targeted at investments in the US
Notes: Includes buyout funds with a final close; represents year funds held their final close
Source: Preqin
Global buyout capital raised (by primary geographic focus)
US Rest of world
0
20
40
60
80
100%
2005 06 07 08 09 10 11 12 13 14
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Figure 2.14: The US has a deep pool of companies
Notes: Based on FY ’13 revenues; includes public companies and private companies for which revenue data is available
Sources: IMF; Capital IQ; Bain analysis
2013 GDP
Number of companies with annual revenues exceeding $250 million
100
200
500
1,000
2,000
5,000
10,000
$20,000B
10 20 50 100 200 500 1,000 2,000 5,000
Italy
UK
Germany
Poland
Mexico
South Korea
Spain
Japan
Argentina
Egypt
Russia
Turkey
South Africa
Brazil
China
France
Canada
Singapore
Hong Kong Chile
Malaysia
Indonesia
Australia
UAE
India
US
Figure 2.15: The US has generated the majority of the top-performing buyout funds
Note: Excludes funds with multiregion investment focus
Source: Preqin
Count of buyout funds with net IRR greater than 15% (by investment region focus)
US Central and South America Europe Asia-Pacific Middle East and Africa
Percentage
of all buyout
funds that are
US-focused
1992 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09
0
20
40
60
80
100%
73 53 54 51 55 49 50 43 45 47 69 62 63 59 59 60 57 60
Vintage year
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four (se Figure 2.16). The PE penetration rate is lower among companies with an enterprise value of greater
than $500 million, simply because those bigger businesses can more easily tap the public equity and corporate
debt markets for capital and, thus, are less reliant on PE than their mid-market counterparts. Penetration is also
very small among companies valued below $100 million—just 3% of this large group of businesses are in PE’s
hands—because many of these enterprises lack the scale or the growth potential to attract the interest of investors.
If too much capital in the hands of a growing number of PE funds chasing too few good assets is a classic
prescription for in?ated acquisition prices, then the US is ground zero for asset-bidding wars. So thick are the
ranks of prospective buyers that a PE ?rm’s ability to quietly line up a proprietary deal has all but disappeared.
Nearly every company that puts itself up for sale is the object of a hotly contested auction.
More than ever, for successful PE investment in the competitive market for US assets in the years ahead, the
prerequisites will be getting an early edge in the auction process, doing great diligence to home in on winning
deals and determining with con?dence what price to pay. Although the US is PE’s most mature market, it is not
a fully ef?cient one. To test that proposition, CEPRES, a provider of products and services to support PE investment
decisions, undertook an analysis of buyouts completed since the downturn in order to probe just how ef?cient or
inef?cient the US market is. The results show that for any EBITDA multiple a GP may pay for assets, there is a
wide range of outcomes for earnings growth (se Figure 2.17). The conclusion: GPs can still ?nd businesses
with value-creation opportunities that others don’t see—and buy them for less than full price.
The rewards available to PE ?rms that can spot seams of opportunity that enable them to buy growth potential at
a favorable price are evident in Advent International’s 2011 acquisition of Bojangles’, a regional quick-service
restaurant chain based in North Carolina. With a decades-long focus on investing in the retail, consumer and
leisure sectors, Advent drew on its depth of experience and its plugged-in adviser network to quickly size up
Bojangles’ as a likely leader in its category. What its deal team saw in Bojangles’ was a business with a healthy core,
a solid management team, strong franchisees and a loyal customer base. Working with company management,
Advent added new Bojangles’ stores within its existing territory and expanded into adjacent markets and introduced
a wider range of menu options to appeal to its broadening customer base. By 2013, Bojangles’ boasted the fastest
growth rate in its industry and built on that success with sales increasing 7% in 2014. With the quick, ef?cient
execution of its value-creation plan achieved, Advent is readying Bojangles’ for an early-2015 IPO.
Making it in America: Precautions for GPs
As more and more global capital seeks refuge in a resurgent US economy, PE investors will need to be on their
guard against ever-present bubble risk. Asset prices, already high, will likely go higher. Particularly as new
technologies spawn new industries or reshape existing ones, compelling business-growth stories and seductive
investment theses will be plentiful and, more often than not, illusory. As every seasoned GP knows, the supply
of truly great ideas is limited, and few withstand rigorous scrutiny.
A high priority for PE ?rms aiming to invest in the already deeply penetrated and hyper-competitive US market
is the heightened focus they bring to deal sourcing. Bain has worked with leading ?rms that are developing
repeatable sourcing models to separate themselves from the pack of rivals showing up at auctions ready to pay
full price. Some ?rms are seeking contrarian plays on assets that are out of favor but where they see hidden
value. Others are digging into macro themes to anticipate trends the market has yet to spot but avoid chasing
headlines. For instance, news stories in the early part of the decade speculated that millennials were different
from older generations in their housing preferences; they would want to live in cities and not in suburbs. In
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Figure 2.16: PE ownership of US companies has increased over time, particularly among middle-
market businesses
Notes: All values are estimated; calculations are based on data only for companies with more than $10 million in revenues
Sources: PitchBook; Internal Revenue Service; Bain analysis
PE-backed companies as a percentage of all US companies (by enterprise value category)
<$100M $100M–500M >$500M
0
10
20
30%
2000 2005 2010 2013
Enterprise value
Figure 2.17: Even in the mature PE market in the US, investors can still spot good opportunities and
not pay full price
Notes: Includes 845 US buyouts invested in 2009 or later; EBITDA stands for earnings before interest, taxes, depreciation and amortization
Source: CEPRES PE.Analyzer
EBITDA CAGR, post acquisition
Lower-quartile threshold Median Upper-quartile threshold
–10
0
10
20
30
40%
<6X 6–7X 7–8X 8–9X 9–10X >10X
EBITDA purchase price multiple
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fact, millennials are becoming suburbanites, after all, having simply delayed their move due to the recession.
Probing deeper in order to separate insight from conventional wisdom and to understand second- and third-
order consequences of a macro theme can unveil investment opportunities the market may not have, as yet,
fully priced.
Once GPs have honed the investment themes they will pursue and con?rmed that they are aligned with the core
elements of their fund’s investment sweet spot—such as the size of the equity commitment they are prepared to
make, their geographic preferences and the degree of control they will exercise—they develop a list of potential
targets and a plan to approach them.
With the prospects for most buyouts balanced on a razor’s edge between a target company’s high valuation and a precise
calculation of its return potential in any economic climate, fortune will favor only the well prepared. Top-performing
PE ?rms understand that the ultimate returns they achieve will re?ect the “quality of the buy”—how well they size up
the potential of the assets they acquire during sourcing and due diligence and how much they ultimately pay.
New macro risks challenge Europe’s PE investors
Following years of persistent near-zero GDP growth and a steady drumbeat of bad news from the
eurozone, European PE investors could breathe a sigh of relief in 2014. The ?nancial turmoil that
threatened to undermine the euro and plunge the continent’s weaker economies into deep recessions
had abated. Yield spreads on euro-denominated sovereign debt had stabilized and, apart from
Greece, the air of crisis hanging over the smaller eurozone periphery economies had begun to lift.
With the recent Greek elections once again throwing open the heated debate between austerity and
growth, however, it would be a mistake for Europe-focused PE ?rms to confuse a respite with a recovery.
As 2015 began, the European Central Bank (ECB) launched a €1.1 trillion quantitative easing program
in an urgent bid to reignite growth. But banks’ business lending remains weak amid gathering signs
of a recession in the major European economies. Beyond the near-term economic indicators, Bain &
Company’s Macro Trends Group sees powerful structural tensions that threaten to pull the eurozone
apart in the not-too-distant future. Differences in the age structure of eurozone member states’
populations—in particular, in the size of the cohort between the ages of 45 and 60—are an important
but too-little-appreciated source of Europe’s unresolved problems.
The number of these thrifty and highly productive mature households, which are past their biggest
consumption years, is currently near its peak in Germany, where their frugal spending patterns risk
aggravating de?ationary pressures. As Europe’s leading exporter, however, Germany has been able
to ship goods and capital to its younger, more consumption-oriented neighbors on the eurozone
periphery, boosting its GDP and keeping a ?oor under prices—all without having to worry about
exchange rate adjustments to the common currency. The consequences for Germany’s eurozone
trading partners have been profound: In?ation has heated up and their economic competitiveness
has eroded—conditions exacerbated by the ECB’s loose monetary policies.
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By the end of the decade, as Germany’s bulge of 45- to 60-year-olds ease into retirement and begin
to consume their savings (pushing up prices), the periphery countries will see that age cohort swell
(kindling de?ationary tendencies). If the ECB’s monetary policies hike interest rates to keep in?ation in
check in Germany, they will risk worsening de?ation in the periphery countries, which will need a
weaker euro to stimulate demand and to repay their large overhang of sovereign debt. Thus, the
eurozone is poised for another crisis: It remains weakened by years of economic stagnation, increasing
debt burdens, the rise of nationalist parties and a loss of competitiveness and de?ation on the periphery,
on the one hand, and the constraints of the euro pact, on the other. Certainly one scenario every
investor should weigh is a partial breakup of the eurozone toward the end of the decade.
Prudent Europe-focused PE ?rms will use the current interlude between crises as a window of opportunity
and fortify their current holdings against looming macro risks. They will also want to scan the economic
horizon to recalibrate their investment theses over the next PE cycle to identify potential opportunities
to pro?t as the EU restructures.
Storm-proof the portfolio. Vigilant PE funds will use today’s hiatus of relative calm to work through a
long checklist of potential ?nancial and operational vulnerabilities, beginning with shoring up their
portfolio companies’ balance sheets. They will take advantage of the currently favorable debt markets
to lower borrowing costs, lighten covenants or pull equity out of assets that may need more time to
ripen in Europe’s slow-growth environment.
Every EU-based PE fund will also want to comb through its supply chain to evaluate how a potential
euro breakup might impact their input costs. PE funds whose portfolio businesses are net recipients of
euros today should protect themselves against currency risk over the medium and long term. For
example, energy-intensive manufacturers, particularly those operating in the struggling economies on
the eurozone periphery, will want to hedge against a possible rise in energy prices from today’s low
levels and a further drop in the euro–US dollar exchange rate. Likewise, PE owners of luxury goods
businesses or other high value-added product or service providers will want to evaluate how they
might take advantage of a weakening euro by increasing domestically sourced raw materials while
boosting exports to markets outside of the eurozone.
Pressure test new investment theses. Facing the signi?cant risk that the eurozone will need to restructure
within the next few years, any Europe-focused buyout fund looking to deploy new capital needs to add
that scenario to how it sources deals and evaluates potential acquisitions. Independent of the inherent
attractiveness of the asset they are thinking to buy, fund managers will want to weigh the possibility
that a euro crisis could see the temporary reinstatement of barriers that impede the free movement of
capital and in?ate borrowing costs or consider how a return of exchange-rate differentials across
eurozone markets might affect debt repayment costs and operating margins.
As PE funds armed with vast reserves of dry powder scour Europe’s markets for a diminishing supply
of crisis-resistant acquisition opportunities, they will need to be on guard against the risk of investment
bubbles. In France and Germany, for example, where the real estate sector may already be over-
heated, trapped assets present a particular danger.
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Successful PE-fund investors will sharpen their sector focus and deepen their geographic and
industry expertise as they target resilient investments in selective pockets with upside opportunity.
For example, the healthcare sector will expand and diversify to serve Europe’s growing aging
populations. Toward the end of the decade, the substantial pool of retiree savings will present
opportunities in wealth management. In Germany, an increasing population of pensioners will spend
more on leisure activities.
PE funds will also be able to help portfolio companies adapt to the eurozone’s smaller and increasingly
expensive workforces by substituting capital for labor, particularly as sophisticated robotics penetrates
traditional service businesses like food, hospitality and healthcare. Using advanced telecommunications
and information technology to ship services outside of the eurozone presents other opportunities to
invest in businesses that specialize in, for example, remotely performed diagnostic analysis or Web-
based training.
Finally, Europe’s crisis-weakened and gun-shy banking sector presents ?ush PE funds with investment
opportunities to fill a lending gap for capital-starved small and midsize enterprises. Blackstone
Group seized this chance last July, when it prevailed over a consortium led by Oaktree in an auction
to purchase a portfolio of home loans for €3.6 billion from a bailed-out Spanish bank.
With the world’s second-largest economy and a large population of af?uent consumers, the eurozone
has long been a powerful magnet for PE investors. Beset with macro challenges that threaten the heart
of the continent’s decades-long program to broaden and deepen its integration, the eurozone will remain
a risky attraction over the medium term and potentially for years to come. PE ?rms will need all of the
foresight, ?exibility and creativity they can muster in order to survive and thrive in today’s Europe.
It’s getting harder to spot the winners
In sharp contrast to the boilerplate disclaimer that every stock market investment fund is required to make, the
notion that past performance is a reliable indicator of future returns has been a proud hallmark of PE investing
since the industry’s earliest days. For LPs, the task of separating the top-performing GPs from the laggards was
a pretty straightforward business. The best guide for institutional investors selecting GPs to invest behind? Look
at how previous funds fared.
No longer. In today’s world of superabundant capital, the conditions that made it possible for top GPs to cruise
from success to success have washed away in a ?ood of money chasing assets. With so much capital in the hands
of so many GPs, opportunities to quietly ferret out proprietary deals at cheap prices are gone. Record low interest
rates on high-yield debt and covenant-lite loan terms have opened the spigots of leverage to PE borrowers,
broadening the pool of potential buyers. Today, nearly every GP has the means—and incentive—to hire consultants
and other outside advisers to reduce the likelihood of big mistakes.
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The democratizing in?uence of plenty of money in the hands of many has had a leveling effect on PE returns.
Transparent auctions guarantee hot competition for assets, and GPs that prevail in them pay top dollar. The
combination of high acquisition prices and longer hold periods is eroding returns. Meanwhile, slow but steady
economic growth in major developed markets has put a temporary floor beneath the returns of the weaker
PE performers.
The cumulative result of these shifts has been to compress industry returns. As recently as a decade ago, top-
quartile buyout funds generated between $2 and $3 or more for each dollar of capital invested—nearly a full turn
higher than the best of the bottom-quartile funds whose ratio of returns per invested dollar hovered between 1-to-1
and 1.5-to-1 (se Figure 2.18). The picture is very different today. Among recent-vintage funds launched between
2006 and 2010, the gap separating the top-quartile GPs from their bottom-quartile peers has narrowed to less
than 50 cents—$1.54 per dollar invested for the best 2010-vintage buyout funds vs. $1.10 per dollar invested for
the laggards. The extent of the compression that we are seeing in recent vintage funds may be temporary. As these
funds exit investments and realize gains, the gap between the top- and bottom-performing funds could widen
some. Nevertheless, the increasing competitiveness of the markets means that there will be some lasting
compression of returns.
The squeeze on fund performance. The compression in return multiples between the top- and bottom-quartile
funds is mirrored in a narrower distribution of returns overall for recent-vintage funds (se Figure 2.19).
Whereas during the 1990s, when 52% of US focused buyout funds generated returns that clustered between
Figure 2.18: Buyout-fund performance has become compressed for recent fund vintages
Note: TVPI is total value to paid-in ratio
Source: Preqin
Global buyout fund vintage-year benchmark returns (TVPI, as of Q2 2014)
Bottom-quartile threshold Median Top-quartile threshold
0
1
2
3
4X
1990 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10
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zero and 20%, fully 75% of the 2005 through 2009 vintage funds have produced gains that fall within that
range. With so many recent-vintage funds bunched within that narrow band, many fewer GPs show up in the
distribution tail with funds that produced superstar returns. Just over 15% of the US-focused buyout funds from
the 2005–2009 vintages are on track to yield outsized IRRs that exceed 20%; in comparison, nearly 30% of
1990s-vintage funds and fully 35% of funds in the 2000–2004 vintages produced IRRs over 20%. The narrow
range of returns among the vast majority of GPs grouped in the middle makes it very challenging to distinguish
which is truly good from which is weak—and which is just lucky.
Trying to hit a moving target. For LPs, the task of separating the strong from the weak performers for purposes
of deciding which GPs to back with future capital commitments has become that much harder as PE funds have
stretched out holding periods for investments.
LPs do get interim readings on the status of their unrealized holdings, of course, when GPs revalue assets still
held in the portfolio to re?ect market-equivalent gains or losses. But those mark-to-market updates have been
of little help as forward-looking assessments about where their funds will ultimately end up and, hence, of little
value in guiding their future capital commitments. For example, when Bain & Company analyzed a sample of
buyout funds whose valuations put them in the top quartile after their ?rst year, we discovered that just 40% of
them ended up as top-quartile funds by the end of year seven. In fact, they were just as likely to have closed out
their seventh year as underperforming third- or fourth-quartile funds. Likewise, 40% of the funds that were in
the bottom quartile after their ?rst year ended up in the top two quartiles after seven years (se Figure 2.20).
Figure 2.19: Funds now cluster in a very narrow band of returns, as the long tail of outperformers has shrunk
Note: Includes buyout funds with 1990–2009 vintages for which IRR data is available
Sources: Preqin; Bain analysis
Distribution of US-focused buyout funds (grouped by vintage year, percentage of funds in sample)
2005–2009
Median=11.9%
2000–2004
Median=14.8%
1990–1999
Median=13.0%
0
10
20
30
40
50%
Net IRR
–30 to
–20%
–20 to
–10
–10 to
0
0 to
10
10 to
20
20 to
30
30 to
40
40 to
50
50 to
60
60 to
70%
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That high degree of uncertainty as to whether a fund will end up a winner or a loser based on its initially reported
gains poses a real challenge for LPs needing to make a call whether to re-up with GPs when they come knocking
with new fund offerings. Typically, GPs look to raise new capital around four years following the close of their
previous fund. Based on interim returns at that point in the predecessor fund’s life, LPs trying to decide if they
will commit to the new fund lack suf?cient clarity to make a truly informed decision. And with such a narrow
spread between top- and bottom-quartile fund performances for recent vintages, a dramatic swing in the outcome
of just one deal can move a fund out of one quartile and into another. Further Bain analysis found that it is only
after around year seven in a fund’s life that its ultimate return pro?le begins to stabilize. Buyout funds that were
top-quartile performers by the end of the seventh year had a two-in-three probability of ending up a top-quartile
fund, and they were virtually certain to end up in the top half of funds. A bottom-quartile fund in year seven had
a four-in-?ve chance of ?nishing as a bottom-quartile performer (se Figure 2.21).
Are you smart or just lucky? Even when it becomes clear that a GP’s predecessor fund has been a top performer, one
can no longer presume that success will inevitably follow success. A Bain analysis of how likely a GP was to follow up
a top-quartile fund with a top-quartile successor found that performance persistence has slipped badly in recent years.
Speci?cally, Bain discovered that the persistence of returns broke down coming out of the last investment cycle:
Nearly 40% of the successor funds to top-quartile funds from a vintage of 2000 or prior turned out to be top-quartile
performers themselves; this compares with just 30% among successors to the top performers of more recent vintages,
2001 and on (se Figure 2.2). Clearly, some good ?rms let down their guard during the boom, committed to deals
they should have avoided and paid the price in terms of a poor-performing fund. Similarly, other ?rms with a poor track
record parlayed lucky timing of investments made during the downturn into a good fund.
Figure 2.20: With a lot of unsold assets sitting in fund portfolios, performance can shift dramatically
over a fund’s life
Notes: Year 1 is the fund’s vintage year plus one; includes buyout and balanced funds across all vintage years
Sources: Preqin; Bain analysis
Buyout funds that were top quartile in year 1 Buyout funds that were bottom quartile in year 1
Quartile performance over the fund’s life Quartile performance over the fund’s life
0
20
40
60
80
100%
1 2 3 4 5 6 7
Year
0
20
40
60
80
100%
1 2 3 4 5 6 7
Year
Top quartile 2
nd
quartile 3
rd
quartile 4
th
quartile Top quartile 2
nd
quartile 3
rd
quartile 4
th
quartile
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Figure 2.21: How well a fund will ultimately perform is not clear until around the seventh year of its life
Notes: Year 7 is the fund vintage year plus seven; includes buyout and balanced funds across all vintage years
Sources: Preqin; Bain analysis
Buyout funds that were top quartile in year 7 Buyout funds that were bottom quartile in year 7
Quartile performance over the fund’s life Quartile performance over the fund’s life
100%
0
20
40
60
80
7 8 9 10 11 12
Year
0
20
40
60
80
100%
7 8 9 10 11 12
Year
Top quartile 2
nd
quartile 3
rd
quartile 4
th
quartile Top quartile 2
nd
quartile 3
rd
quartile 4
th
quartile
Figure 2.2: The persistence of fund performance appears to be slipping
Performance quartile distribution of successor funds to top-quartile funds
Predecessor fund’s vintage:
2000 and prior
Predecessor fund’s vintage:
2001 and after
10 percentage
point drop
in top-quartile
persistence
Notes: Analysis includes buyout funds with investment region focus of North America, Central and South America, Western Europe, and Central and Eastern Europe; includes
125 fund pairings with the “predecessor fund’s vintage: 2000 and prior” and 93 fund pairings with the “predecessor fund’s vintage: 2001 and after”
Sources: Preqin; Bain analysis
0
20
40
60
80
100%
Top quartile
2
nd
quartile
3
rd
quartile
4
th
quartile
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The break in performance persistence has further complicated LPs’ task of determining whether a fund’s
performance was the result of canny investment prowess or blind luck. Persistence still matters, but LPs can no
longer rely on it as they have in the past and must look beyond a GPs past track record when making investment
decisions. Investors have become keenly aware that beta, the passive outcome of market forces, is no longer likely
to produce consistently strong returns from one fund to the next. But alpha—the value addition that skillful GPs
manage to generate—is repeatable, as suggested by recent research from Oliver Gottschalg, a professor at the École
des Hautes Études Commerciales in Paris, in collaboration with Golding Capital Partners. Their study found
a statistically signi?cant correlation between the evidence of alpha present in one fund and its successor. By
identifying funds that have a demonstrated model for generating alpha, LPs can differentiate successful funds
that will likely win again from those that are not apt to repeat their past success—though this is easier said than
done. An even bigger challenge for LPs is to identify which ?rms have a repeatable model in place for generating
alpha from the start. If they wait until the ?rm has demonstrated success in several earlier funds, they will likely
?nd that they are too late to get in as an investor with that GP in its latest offering.
GPs’ mandate to differentiate
When they sit across from skeptical LPs to pitch their latest fund, many GPs recognize that they have some
explaining to do. If your most recent fund faltered, how can LPs tell whether the mis?re was a one-off anomaly
or a sign that your ?rm has lost its mojo? If your most recent fund’s results fall within the narrow range of so-so
performance turned in by the majority of GPs, what will persuade LPs that your next will be a breakaway winner?
If your funds have done well in the past, how can they remain con?dent that you still have the skills needed to
repeat that success?
Some PE ?rms that hit a bump during the downturn assuage questioning LPs by candidly acknowledging past
mistakes and then quickly assuring them that these are unlikely to recur. Others that may have outperformed
trumpet their success, while quietly anguishing over whether good fortune may deserve more credit than
deft investment or portfolio management skills for their recent fund’s strong performance. But candor and luck
go only so far. Forward-looking GPs—the kind that LPs want to invest behind—understand they must demonstrate
that they can tap clear and enduring sources of competitive advantage, an alpha model that enables them to
transform the assets they acquire to generate top-quartile returns.
At the core of a well-tuned alpha model is a PE ?rm’s clear articulation of where it will play and how it will win.
It draws a tight ring around the investment areas where it is con?dent it will ?nd success and where it will hunt
for the majority of its deals. It determines how it will win by looking across the entire investment value chain to
map out an angle of attack that makes the most of the ?rm’s unique strengths—from sourcing deals and conducting
enhanced due diligence to applying a robust portfolio value-creation model and nimbly managing the exit process.
In today’s investing environment, those ?rms that hone a repeatable model for value creation in their portfolio
companies will outpace the rest.
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3. Back to basics: Portfolio building blocks for market-
beating returns
Today’s tough deal-making environment has drummed home one truth, perhaps above all others, to buyout ?rms:
To generate the outsized returns of the past requires sustained active engagement with portfolio companies. PE
fund managers have become painfully aware that today’s high prices for new acquisitions mean they can no longer
count on external market forces to boost the value of their holdings. An activist approach is just one element of
the investment value chain—stretching from proactive deal sourcing, a structured due diligence that thoroughly
vets the quality of the proposed buy and on through a well-managed exit process—on which the fund’s deal success
depends. But it is a critical step for unlocking alpha in a PE fund portfolio.
Many buyout firms have made solid progress since the 2008 market meltdown in marshaling resources to
actively create value in their portfolios. They are engaging earlier with the management of portfolio companies,
dedicating more time and resources to identify potential sources of value and re?ning their value-creation models
to help extract it. Yet, PE ?rms still struggle with execution: Few systematically engage with each company in their
portfolio, and still fewer do it consistently well. According to a survey that Bain & Company conducted through
the Private Equity Operating Partner Executive Network (PE OPEN), a global network of more than 400 partners
responsible for portfolio company oversight, more than 50% of respondents reported that their ?rm has a clearly
de?ned operating model to create value in their portfolio, but fewer than 5% apply the model consistently—and
with the depth and quality intended—with each portfolio company they own (se Figure 3.1).
Figure 3.1: Half of PE ?rms claim to have a well-de?ned operating model, but less than 5% consistently
deploy it
Percentage of survey respondents Percentage of survey respondents
Note: PE OPEN members are full-time operating partners of major PE funds with assets under management exceeding $500 million
Source: PE OPEN member survey, conducted by Bain & Company, 2014
0
20
40
60
80
100%
Have a clearly
defined model
Have made good progress
but are still developing
In the early stages
0
20
40
60
80
100%
Most of the time
Some of the time
Often do not
All of the time
How would you characterize your firm’s operating
model to create value in the portfolio?
How consistently do you deploy your value-creation
model with the depth and quality intended?
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It is not hard to understand why PE ?rms have dif?culty. Following the energy-draining intensity of completing a
deal, a quick pivot to hands-on engagement that will ?esh out and maximize potential sources of value-generating
alpha is hard—and in many respects antithetical to PE’s transactional mindset. Five major barriers inhibit the
shift from deal making to value creation. The ?rst is complacency on the part of the target company’s management
and the PE ?rm itself. With both sides feeling vindication and relief that the deal has been successfully consummated,
neither is eager to revisit management’s pitch or the fund’s investment thesis and turn them into an integrated,
actionable roadmap for creating new value. Second, during the honeymoon period following a deal’s completion,
neither side is eager to tackle dif?cult issues in the initial months under new ownership. The third impediment
is simple confusion over roles. PE ?rms wrestle with how to balance the backing of strong management teams,
which PE ?rms pride themselves on nurturing, with helping those teams achieve more than they might have with
the next highest bidder. Fourth, would-be PE activists come up against internal cultural norms. Typically, what a
PE fund buys merits the best thinking of both a managing director team and the ?rm’s investment committee, yet
the challenge of how to maximize value is left to the judgment of one or two managing directors and junior team
members. Finally, PE ?rms labor to develop repeatable processes that impose the right amount of structure to
accommodate both the variety of deal situations they encounter and the individual managing directors’ personal
operating styles.
As is common in situations where organizations confront challenges that cannot be surmounted easily, they
default to doing too little, too late. But with the stakes so high and the alpha-generating imperative more important
than ever, delay and half-measures are prescriptions for missed opportunities and underperformance. There is no
single template for activist value creation, and there is much debate about the size, structure and assigned roles
of the portfolio team and the nature, extent and timing of its engagement with portfolio-company management.
Yet as Bain & Company has found through years of experience working with PE firms, all effective activist
value-creation programs are built on the ?ve interlocking building blocks described below. None is suf?cient by
itself, and each needs to be addressed early and repeatedly throughout the asset’s holding period.
1
Capture the “quick hits.” Every deal presents immediate opportunities to make tactical operational improvements
to boost revenue (by tweaking pricing, for example), shrink costs (through smarter procurement or by squeezing
out excess inventories, perhaps) and pocket money left on the table. Engaging quickly with management to
tackle these as soon as the deal closes builds momentum and reduces risk in the investment in year one.
Although it is important to harvest low-hanging fruit and put out ?res, these actions are simply the start of
a value-creation program. In fact, the quick gains captured by ?ne-tuning performance can breed complacency,
and they can absorb resources and energy that distract the portfolio team’s attention or may be more pro?tably
invested in higher value activities with a larger long-term payoff.
In late 2009, CVC Capital Partners, a leading global PE ?rm, paid around $2.2 billion for a string of central European
breweries spun off by AB InBev, the multinational beverage and brewing company. Operating across nine countries,
the new company, renamed StarBev, faced declining beer consumption and falling market share in key countries. CVC’s
operations team became involved during due diligence to scrutinize StarBev for potential cost savings that could yield
quick wins. They discovered that even as a smaller, standalone company, StarBev could reduce ancillary costs in
procurement and manufacturing by, among other things, pooling indirect expenditures across facilities and switching
to energy cogeneration. Within six months the new procurement initiatives and manufacturing improvements were
well under way, and StarBev was able to plow cash back into its brands, improve product quality and pay down debt.
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2
Develop strategies to transform the businesses. A long-term strategy that identi?es and creates real competitive
advantage for portfolio companies is the surest way to move the needle on portfolio returns. Portfolio activists
need to formulate and quickly deploy a multiyear strategic transformation—a major product-line extension,
say, or a push into a new adjacency or a channel expansion. Strategies designed to move a company onto a new
trajectory need time to implement and mature if they are going to yield their expected results within the portfolio
company’s typical ?ve-year holding period.
Implementing a transformational change requires deep foundational understanding about the business and
the competitive dynamics of its industry. The PE ?rms that are best able to do this are ones that stick to their
deal sweet spot and have applied their change model over and over again with portfolio companies that share
a similar pro?le. That focus enables them to bring to bear the unique capabilities for identifying where and
how they can create untapped value and mobilize them effectively.
Supported by CVC’s operations team, the country-management teams at StarBev set out to transform the organization
into a growth business. The major priorities of the transformation strategy would be to reinvest in StarBev’s core lager brands
and strengthen the salesforce and account management to recapture market share. And they would make a major push
behind Staropramen, a premium Czech beer that market analysis showed to have untapped export potential. Beyond its
focus on growth through brand building and exports, CVC would continue to take steps to boost margins as sales volume
increased over the long term, consolidating StarBev’s manufacturing footprint and exiting the malting process.
3
Roll out a robust value-creation plan in year one. Jointly formulated by the portfolio company’s senior management
team and the PE fund, the value-creation plan builds alignment around the three to ?ve highest priority short-term
actions and the longer range transformational initiatives that will achieve target equity value over the holding
period. Strategy is about choices and resource allocation; the value-creation plan pares down the laundry list of
potential opportunities to the short list that really matters. It assigns accountability, details an actionable
implementation roadmap, lays out key internal and external metrics to track performance, charges a program
management of?ce to oversee execution and provides the resources it will need to succeed. Far from being a static
document, leading PE ?rms routinely refresh their value-creation plans at predetermined intervals or following a
signi?cant trigger event, such as an acquisition or a change in top management, to ensure the plan is moving toward
its expected goals and making necessary course corrections. Prior to exit, the team updates the value-creation plan
to build the economic case for the asset’s sale and to identify future growth opportunities for the next owner.
When done well and early in the PE ownership cycle, value-creation plans have a huge impact on deal success.
Analyzing 128 exited deals in which Bain was retained to work with management post acquisition, we found
that when the PE fund and management team rolled out a plan and operational blueprint within the ?rst year
of ownership, the fund realized a multiple of 3.6 times invested capital, twice the industry average.
With the help of CVC’s operations team, management ?eshed out its strategic transformation plan by developing a
detailed program to guide implementation of each country’s set of value-creation initiatives. Working with local
managers in each market, the operations team assigned ownership for each initiative, established clear goals and key
milestones and marshaled the resources needed to meet them. StarBev kept close tabs on key performance indicators
to measure progress against each project and take corrective action where required. A program management of?ce at
StarBev’s headquarters consolidated reporting across the business. Monthly management and executive committee
meetings reviewed execution, identi?ed performance gaps and opportunities to close them and kept on top of all
time-sensitive decisions that had to be made.
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4
Focus on talent and build high-performing organizations. The quality of portfolio company management
teams and their ability to drive change is perhaps the most critical—and sensitive—factor in?uencing a deal’s
ultimate success. In a recent survey by accounting ?rm Grant Thornton, PE executives ranked having a strong
management team in place ahead of strategy, operational improvements or macroeconomic factors as the most
important factor in?uencing their portfolio companies’ results.
Setting up the top management team to succeed and providing powerful incentives for them to deliver from
the outset is essential. PE activists must strike a delicate balance between supporting a portfolio company
CEO and being prepared to put someone new in the job early on. A delay in replacing an underperforming
or ill-equipped CEO can signi?cantly undermine even the best formulated value-creation plan. Bain found
that among the portfolio companies it examined, slightly fewer than half of PE owners replaced a CEO at
some point during the period they owned the business. In three out of ?ve of those instances, the decision
to ?re the CEO was not an action the PE ?rm had planned to take at the outset. And in the overwhelming
majority of those cases where an unplanned replacement was made, the PE owners did not act until after
the all-important ?rst year of ownership—after the honeymoon period had ended and the opportunity to
build early forward momentum had passed.
Experienced activist ?rms anticipate the potential need to take decisive and quick action. They maintain
a stable of seasoned senior executives on call who can be parachuted in to fill key senior management
roles. They undertake an early, clear-eyed evaluation of the CEO and his or her chief lieutenants against
the most important criteria of the value-creation plan, and they make necessary changes soon after the
deal closes.
A virtue of the fact that StarBev had begun its life under their ownership as a carve-out was that it lacked a top-heavy
centralized senior management. Rather than build one, CVC instead worked to develop strong country-operations
teams with local talent that would lead and implement the market-speci?c transformation plans. The single-minded
pursuit for these teams was to deliver on the value-creation plans’ objectives and build local capabilities to support
the key initiatives within their countries. StarBev’s lean corporate leadership team focused on human resources,
marketing and sales playbooks, procurement, manufacturing and export expansion.
5
Convert good deals into great ones. Successful portfolio activists take pains to avoid a costly asset-management
pitfall—the temptation to double down and try to put a troubled company back on track at the expense of
nurturing their winners. Of course, it is essential that GPs apply a consistent value-creation model to each
portfolio company as it comes on board, but inevitably some deals will show far more promise than others.
But it is also true that top-performing funds consistently generate fewer losing deals and more winning
deals than their less successful peers. For the average fund, there is much more to gain by dedicating
resources and management time to deals that are already performing well than trying to salvage those that
are failing. Notably, a Bain analysis that simulated alternative outcomes for a sample of funds that turned
in a net IRR of between 5% and 15% during the vintage years from 1995 to 2007 found that the payoff
from investing to go from good to great by replicating the success of top-performing funds’ higher frequency
of winners has three times greater impact than trying to lift a money-losing investment marginally
above breakeven.
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Many PE ?rms struggle to ?nd the time and resources to do value creation right. On average, PE-fund operating
partners responding to the PE OPEN survey reported that they devote some 40% of portfolio resources to
deals on track to deliver less than two times their invested capital. Some said that their ?rms are expending
as much as 60% to turn around deals that will likely return less than the equity capital they committed.
Funds whose mix of portfolio companies is apt to produce just so-so results must pick their battles. By
starving their losers and redirecting resources to nurture their winners, they can boost their overall
portfolio performance.
From the day CVC took control of the StarBev assets in late 2009 until the day it exited the investment less than
two-and-a-half years later, the operations team worked alongside management to maintain a disciplined cadence of
implementing the value-creation strategy. The $3.5 billion sale of StarBev to Molson Coors in early 2012 capped a
winning deal for CVC.
Portfolio value creation is not a one-and-done proposition. Working from these building blocks, PE activists
implant a whole new set of disciplines and capabilities into the daily rhythms and cultural norms of their ?rms,
turning value creation into a repeatable process they hone over time and draw on over and over again.
CVC is now executing a nearly identical playbook at Continental Foods, a carve-out of leading European
consumer brands, purchased for €400 million from Campbell Soup Company in October 2013. Less than a year
into CVC’s ownership, Continental Foods returned to growth after four years of declining revenues, and it improved
its run-rate EBITDA by more than 20%—all while elevating the quality of its products and increasing marketing
investments by 40%. Having already refinanced the business and taken equity off the table, early indicators
suggest that this, too, will end up as a very successful deal.
Identifying barriers to value creation: A self-assessment
Successful portfolio activism prizes two qualities above all others: a sense of urgency and focused intention.
Only PE ?rms that can quickly transition from thinking as acquirers to acting like value creators will be able to
unleash the alpha that will increasingly separate the winners from the losers. With no time to lose, these ?rms
are primed to mobilize the entire organization around the ?ve interlocking building blocks of portfolio activism
before the ink is dry on a deal’s closing documents. To test whether your ?rm will be able do the same, your
deal teams, operations teams and managing partners can evaluate their value-creation readiness by answering
the following questions:
• Has your ?rm developed a repeatable model for creating value in its portfolio companies, and does it have
a high degree of buy-in from the deal partners?
• Does your ?rm have formal processes in place—endorsed by senior partners—that enable it to pivot quickly
from deal making to value creation as soon as a deal closes?
• At each of your portfolio companies, are management and operating partners aligned on the short list of
priority initiatives that will really move the needle on equity value creation?
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• Has your ?rm built a network of C-level executives it can call on to manage a portfolio company as the need arises?
• Is there consensus among your deal and operating partners about which portfolio companies have the potential
to go from good to great, and does your ?rm back those companies with suf?cient resources to help them
become big winners?
• Does your ?rm conduct periodic reviews of each portfolio company and adjust both near-term and long-term
objectives to accommodate changing macroeconomic conditions, new portfolio company challenges and
opportunities or shifting industry dynamics?
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Key contacts in Bain’s Global Private Equity practice
Global: Hugh MacArthur ([email protected])
Americas: Bill Halloran ([email protected])
Asia-Paci?c: Suvir Varma ([email protected])
Europe, Middle East and Africa: Graham Elton ([email protected])
Please direct questions and comments about this report via email: [email protected].
Reporters and news media: Please direct requests to
Dan Pinkney
[email protected]
646-562-8102
Acknowledgments
This report was prepared by Hugh MacArthur, head of Bain & Company’s Global Private Equity practice, and
a team led by Brenda Rainey, manager of Bain’s Global Private Equity practice.
The authors thank Chris Bierly, Alexander DeMol, Christophe DeVusser, Graham Elton, Bill Halloran, Mike McKay
and Suvir Varma for their contributions. They are also grateful to Karen Harris and Austin Kimson for their insights
as director and senior economist, respectively, of Bain’s Macro Trends Group; André Castellini for his perspectives
on Brazil; Paige Henchen and Hana Kajimura for their analytic support; Emily Lane and John Peverley for their
research assistance; and Lou Richman for his editorial support.
We are grateful to Cambridge Associates, CEPRES and Preqin for the valuable data they provided and for their
responsiveness to our special requests.
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This work is based on secondary market research, analysis of ?nancial information available or provided to Bain & Company and a range of interviews
with industry participants. Bain & Company has not independently veri?ed any such information provided or available to Bain and makes no representation
or warranty, express or implied, that such information is accurate or complete. Projected market and ?nancial information, analyses and conclusions contained
herein are based on the information described above and on Bain & Company’s judgment, and should not be construed as de?nitive forecasts or guarantees
of future performance or results. The information and analysis herein do not constitute advice of any kind, are not intended to be used for investment purposes,
and neither Bain & Company nor any of its subsidiaries or their respective of?cers, directors, shareholders, employees or agents accept any responsibility
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