UK Private Equity Firms Turn to Self Selling Amid Diminishing Exit Routes

UK PE Firms Turn to Self-Selling Amid Diminishing Exit Routes

UK private equity firms are increasingly turning to self-selling as traditional exit routes dry up. Disposals to so-called continuation funds have become the most popular option for private equity executives seeking an exit strategy, according to recent reports.

Leading this trend is the disposals to “continuation funds” being the most popular option for PE seeking an exit from their investments, according to a poll of 200 industry professionals carried out by Numis

This trend has emerged as a result of the limited availability of exit routes, such as initial public offerings (IPOs) and trade sales, which have traditionally been used by private equity firms to cash out and return money to investors.

UK Private Equity Firms Turn to Self Selling Amid Diminishing Exit Routes

Photo by Miklos Magyar

Continuation funds are a relatively new concept in the private equity industry and have become increasingly popular in recent years.

These funds are set up by private equity firms to acquire portfolio companies that are no longer deemed core to their investment strategy.

The idea is that the portfolio company is sold to the continuation fund, which is then managed by the private equity firm, allowing the firm to retain control of the company while also returning money to investors.

This strategy is particularly attractive in the current market, where IPOs and trade sales are becoming more challenging due to market volatility and regulatory uncertainty.

Overall, self-selling is becoming an increasingly popular exit strategy for private equity firms in the UK.

As the availability of traditional exit routes diminishes, continuation funds are providing an attractive alternative for firms looking to exit their investments while also retaining control of their portfolio companies.

While this trend is still in its early stages, it is likely to continue as private equity firms seek new ways to exit their investments in an increasingly complex and challenging market.

The Shift in UK Private Equity Firms’ Strategy

UK private equity firms have been turning to self-selling as exit routes diminish. This strategy involves the disposal of portfolio companies to “continuity” funds, which are created by the same private equity firms that own the assets. This approach has become a preferred strategy to return cash to investors.

According to a recent article in the Financial Times, this shift in strategy has been driven by a number of factors. First, there has been a decline in the number of IPOs in recent years, which has limited the exit options available to private equity firms.

Second, there has been increased competition for assets, which has driven up prices and made it more difficult to generate returns. Finally, there has been a growing trend towards longer holding periods, which has made it more difficult to exit investments within the traditional three to five-year time frame.

Despite these challenges, private equity firms have continued to invest in the UK mid-market. According to KPMG’s UK Mid-market PE Review 2022, mid-market private equity investment in the UK grew by 9% in 2022, with the total value of deals reaching £46 billion.

This growth was driven by demand for TMT and business services businesses, which accounted for three in five deals.

However, the overall UK private equity market saw a decline in activity in 2022, with the total value of deals down 6% from £180 billion in 2021 to £170 billion in 2022, and volumes down by 16.5% from 1,850 in 2021 to 1,544 in 2022.

These figures suggest that private equity firms are facing increasing challenges in finding attractive investment opportunities and generating returns.

In conclusion, the shift towards self-selling reflects the changing landscape of the UK private equity market.

While this strategy may help private equity firms to return cash to investors, it also highlights the challenges they face in finding attractive investment opportunities and generating returns in the current environment.

The Emergence of Self-Selling

As traditional exit routes become less viable for UK private equity firms, self-selling has emerged as a preferred strategy to return cash to investors. Self-selling, also known as secondary buyouts, refers to the sale of portfolio companies to “continuity” funds owned by the same private equity firms.

Reasons for Choosing Self-Selling

There are several reasons why UK private equity firms are increasingly turning to self-selling as an exit strategy.

One of the main reasons is the stagnant IPO market, which has made it more challenging to take companies public.

Additionally, high costs associated with financing deals and a lack of available buyers have made traditional exit routes less attractive. Self-selling allows private equity firms to exit their investments while maintaining control of the portfolio companies and potentially increasing their value before selling them again in the future.

The Process of Self-Selling

The process of self-selling typically involves two stages. In the first stage, the original private equity fund carves out a company or companies from its portfolio for sale.

In the second stage, advisers call secondary funds and present the private equity firm’s valuation of the company or companies.

If a deal is reached, the private equity firm sells the portfolio company to the secondary fund, which takes over ownership.

Self-selling has become a popular strategy among UK private equity firms, with research conducted by Numis showing that private equity managers are increasingly choosing to sell companies to themselves as a means of offloading investments.

While self-selling may not be the ideal exit strategy for all portfolio companies, it has become an important tool for private equity firms navigating a challenging exit environment.

Impact on the UK Private Equity Market

Effects on Investment Trends

The decline in exit routes for UK private equity firms has had a significant impact on the investment trends in the market. With fewer exit options available, private equity firms are turning to self-selling as a means of securing returns on their investments.

This trend has led to a rise in secondary buyouts, where private equity firms sell their portfolio companies to other private equity firms.

Additionally, the decline in exit routes has led to a shift in investment strategies. Private equity firms are now focusing on longer-term investments, as they seek to maximize returns on their investments. This trend has led to an increase in the number of growth capital investments, where private equity firms invest in companies with the aim of helping them grow and expand.

Implications for Investors

The decline in exit routes has also had implications for investors in the UK private equity market.

With fewer exit options available, investors may find it more difficult to realize returns on their investments. This trend may lead to a decrease in investor confidence in the market, as investors become more cautious about investing in private equity.

However, the rise in secondary buyouts may also present opportunities for investors.

As private equity firms sell their portfolio companies to other private equity firms, investors may have the opportunity to invest in these companies at a later stage of their development.

This trend may also lead to an increase in the number of co-investment opportunities, where investors can invest alongside private equity firms in portfolio companies.

Overall, the decline in exit routes for UK private equity firms has had a significant impact on the investment trends and strategies in the market. While this trend may present challenges for investors, it may also present opportunities for those willing to take on the risks associated with longer-term investments and secondary buyouts.

Case Studies of Self-Selling

Private equity firms in the UK are increasingly turning to self-selling as traditional exit routes dry up. Here are a few case studies of self-selling:

Aston Martin

In 2021, a consortium led by Canadian billionaire Lawrence Stroll bought a 16.7% stake in Aston Martin for £182m ($239m) and took control of the luxury carmaker. A year later, the consortium bought an additional 3% stake in the company for £33m ($43m) through a continuation fund, which allowed them to buy assets from themselves.

The Hut Group

In 2022, The Hut Group (THG), an online retailer, sold a 19.9% stake in its beauty division to a continuation fund for £355m ($465m). The deal allowed THG to retain control of the division while raising capital to fund its expansion.

ASDA

In 2020, the Issa brothers, owners of petrol station chain EG Group, and private equity firm TDR Capital bought UK supermarket chain ASDA from Walmart in a £6.8bn ($8.9bn) deal. The consortium used a continuation fund to finance part of the deal, which allowed them to buy assets from themselves.

Self-selling has become a popular option for private equity executives seeking an exit from their investments. Disposals to continuation funds, which allow firms to sell assets to themselves, have grown in popularity as traditional exit routes such as IPOs and trade sales have become more challenging.

Challenges and Risks of Self-Selling

Self-selling, also known as a continuation fund, is becoming an increasingly popular exit route for private equity firms in the UK due to a stagnant IPO market and high costs associated with financing deals. While it can offer benefits such as flexibility and control, there are also challenges and risks associated with self-selling.

One of the main challenges is the potential for conflicts of interest. When a private equity firm sells a company to itself, it is essentially acting as both the buyer and the seller. This can create a conflict of interest as the firm may be more focused on maximizing its own profits rather than getting the best deal for the company and its shareholders.

Another challenge is the lack of transparency. Self-selling transactions are typically not subject to the same level of scrutiny as traditional sales to third-party buyers.

This can make it difficult for shareholders and other stakeholders to assess the fairness of the deal and ensure that the company is being sold at a fair price.

There are also risks associated with self-selling.

For example, if the private equity firm is unable to secure financing for the transaction, it may be forced to abandon the sale or accept less favorable terms. Additionally, if the firm overpays for the company, it may struggle to generate a sufficient return on its investment.

Despite these challenges and risks, self-selling can be a viable option for private equity firms looking to exit their investments in today’s market.

However, it is important for firms to carefully consider the potential drawbacks and take steps to mitigate any risks before proceeding with a self-selling transaction.

Future Outlook and Predictions

As the trend of private equity firms selling assets to themselves continues to gain momentum, it is expected that this strategy will become even more popular in the future.

According to a report by BDO, the appetite for exits has steadily declined since Q4 of 2021, and some PE funds are beginning to feel pressure to divest portfolio companies and return money to LPs.

However, the decline in exit volumes and values in 2022 has raised concerns among investors and industry experts. KPMG’s analysis shows that UK private equity activity cooled in the first half of 2023 amid market volatility and tough trading conditions.

The firm’s latest Mid-Market Private Equity study shows that 327 deals worth £32 billion were completed in H1 2023, reflecting a drop in volume of 12 per cent when compared with the same period in 2022.

Despite the challenges faced by the industry, there are several factors that could drive growth and innovation in the private equity market.

For example, the global transition to a low-carbon economy represents a major opportunity for infrastructure investors around the world, according to a report by BlackRock.

The report predicts that US$125 trillion of new investments will be made by 2050, creating a significant demand for private equity investment in renewable energy, clean technology, and sustainable infrastructure.

Another potential growth area for private equity firms is the technology sector.

With the increasing digitization of the economy, there are numerous opportunities for private equity investment in areas such as artificial intelligence, cybersecurity, and e-commerce.

However, with the rise of new technologies, there are also significant risks and challenges, such as data privacy concerns and cyber threats.

In summary, the future outlook for UK private equity firms is mixed. While the trend of self-selling assets is likely to continue, the industry faces challenges such as market volatility and declining exit volumes.

However, there are also significant opportunities for growth and innovation in areas such as sustainable infrastructure and technology. Private equity firms that are able to navigate these challenges and capitalize on these opportunities are likely to thrive in the years ahead.

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