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Unfairly reviled, and much misunderstood, private equity differs from all other asset classes in various important respects, not least the way in which its fund mechanisms operate, and the way in which its returns are recorded and analysed. Sadly, high level asset allocation decisions are frequently made on the basis of prejudice and misinformation, rather than a proper appreciation of the facts. Guy Fraser-Sampson draws upon more than twenty years of experience of the private equity industry to provide a practical guide to mastering the intricacies of this highly specialist asset class. Aimed equally at investors, professionals and business school students, it starts with such fundamental questions as 'what is private equity?' and progresses to detailed consideration of different types of private equity activity such as venture capital and buyout.
Rapid and significant changes in the environment during the recent financial crisis have prompted the need for a new edition. Separate chapters have been added on growth and development capital, as well as secondary investing. Newly emergent issues are considered, such as lengthening holding periods and the possible threat of declining returns. Particular problems, such as the need to distinguish between private equity and hedge funds, are addressed. The glossary has also been expanded. In short, readers will find that this new edition takes their understanding of the asset class to new heights.
Key points include:
A glossary of private equity terms
Venture capital
Buyout
Growth capital
Development capital
Secondary investing
Understanding private equity returns
Analysing funds and returns
How to plan a fund investment programme
Detailed discussion of industry performance figures
Contents
About the Author xi
Acknowledgements xiii
Introduction xv
1 What is Private Equity? 1
What is Private Equity? 2
Fund investing versus direct investing 3
Co-investment 4
Terminology 6
Different types of Private Equity investment 7
Summary 13
2. What are Private Equity Funds, and How do They Work? 15
Capital: Allocated, Committed, Drawn Down and Invested 17
How do Private Equity Funds Work? 18
Structure 18
Cash flow 20
Investment 22
Fundraising 23
Private Equity Funds Distinguished from Other Fund Types 25
Hedge funds 25
Infrastructure 27
Private (Equity) Real Estate 28
A Note on International Issues 28
Summary 29
3. Private Equity Returns - The Basics 31
Understanding the J-curve and Compound Returns 31
Upper Quartile Figures 37
Median Returns 38
Average Returns 39
Pooled Returns 41
Using Vintage Year Returns for Benchmarking Purposes 41
Time-weighted Returns 42
Summary 43
4 Private Equity Returns - Multiples and Muddles 45
Multiples 45
Distributed over paid in (DPI) 47
Paid in to committed capital (PICC) 47
Residual value to paid in (RVPI) 47
Total value to paid in (TVPI) 48
Use of multiples in industry research 48
Muddles, Muggles and Markowitz 51
Returns 52
Risk 54
Liquidity 56
Summary 58
5 Buyout 59
Types of Buyout Transaction 59
Mbo 59
Mbi 60
Bimbo 60
Lbo 60
Take Private (P2P) 61
Roll-up 62
Secondary Buyouts 62
Other 'Buyout' Activity 62
PIPEs 63
How do Buyouts Work? 63
Characteristics of Buyout 67
Established businesses 67
Debt 69
Earnings 70
Size 71
Control 74
Barriers to entry 75
Summary 77
6 How to Analyse Buyouts 79
Earnings 80
Ebit 81
Ebitda 82
Earnings Growth 83
Multiple 84
Multiple increase (sometimes called multiple arbitrage) 85
Leverage 88
Recapitalisation 89
Timing 89
Modelling and Analysing Buyout Funds 91
Enterprise value 91
Summary 94
7 Buyout Returns 97
US versus European Buyout 97
Buyout skill bases 100
Imperfect markets 100
Earnings multiples 101
Earnings growth 104
Leverage 105
Contribution of different drivers 106
Fund size 107
Summary 112
8 Venture Capital 113
What is Venture Capital? 113
Backing New Applications, Not New Technology 114
Classification by Sector 115
It 116
Telecoms 118
Life Science 120
Classification by Stage 123
Seed stage 124
Early stage 127
Mid and late stages 128
Summary 128
9 How to Analyse Venture 129
The Fundamentals (1) - Money Multiples 129
The Fundamentals (2) - Valuation 131
Valuation as an element of stated returns 131
Differences in valuation approach between Europe and the US 132
Variability of Venture valuations 133
Pre-money and post-money valuations 135
Share classes 136
The Fundamentals (3) - Cost and Value 136
IRRs and multiples 138
Going in equity (GI%) 139
Percentage of the holding within the fund 139
The Impact of Home Runs 139
Summary 142
10 Venture Returns 145
US Outperformance versus Europe 145
Money multiples drive IRRs 145
Home runs and the golden circle 147
Market conditions 149
European Venture - Is it as Bad as it Seems? 151
Returns and Fund Size 154
Venture returns by stage 158
What of the Future? 159
Summary 161
11. Growth and Development Capital 163
The PLC and the BCG Growth Matrix 164
Development Capital 166
Target companies 166
Money in deals 166
Money out deals 167
Objectives 167
Growth Capital 168
Target companies 168
Objectives 169
Growth capital and late-stage Venture 170
Common Issues 171
Minority protection 171
Exit protection 173
The Future 174
Summary 175
12. Secondary Private Equity Fund Investing 177
Why do People Buy Secondaries? 178
Time and the J-curve 178
Diversification by time 180
Diversification by geography and sector 181
Treasury and Portfolio Secondaries 181
Why do People Sell Secondaries? 182
Change of strategy/leaving the asset class 182
Overconcentration by time, sector or geography 183
Unexpected need for cash 183
Housekeeping 184
Dissatisfaction with the GP 184
Restrictions on Transfer 184
Stapled primaries 185
Secondary Methodology 186
Tails 187
Fees etc. 188
Secondary Buyouts - A Warning 189
Summary 189
13. Due Diligence 191
Buyout Funds 193
Venture Funds 194
Co-investors 196
Cross-fund Investing 197
Buyout Companies 198
Venture Companies 199
Funds of Funds 200
Growth and Development Capital 201
Monitoring Private Equity Funds 202
The Changing Nature of Due Diligence 204
Summary 204
14. Planning Your Investment Programme 207
Cash Flow Planning 207
Allocated, Committed and Invested Capital 208
Diversification by Time 209
Proper Commitment Levels 210
Diversification by Sector and Geography 212
Total Return 215
How to deal with uninvested capital 215
Towards a New World of Private Equity Programmes? 218
Summary 219
15. Trends and Issues 221
Financial Crisis 222
Credit 222
Valuation 224
Holding periods 225
Secondaries 227
Emerging Markets 228
Concluding Thoughts 229
Track record 230
Returns 230
Fee structures 231
Private Equity at a Crossroads? 232
Summary 233
Glossary of Private Equity Terms 235
Index 259
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