Speaker 1: Bloomberg Audio Studios, podcasts, radio news.
Speaker 2: When the FED makes it a little bit easier to
Speaker 2: borrow money by lowering the cost of borrowing money, that
Speaker 2: is sort of a positive vibes move.
Speaker 1: The FED lowered interest rates last week.
Speaker 2: So that's welcome news for people who are looking to
Speaker 2: borrow money, whether it's for a mortgage.
Speaker 1: But that positive vibes move for borrowers came with a
Speaker 1: warning that the job market is weakening and inflation is
Speaker 1: still elevated, and now everyone's eagerly awaiting the Fed's next steps.
Speaker 2: Most officials forecast the FED will use those meetings to
Speaker 2: lower interest rates by another half a percent.
Speaker 1: It will keep lowering rates in order to prop up
Speaker 1: the slowing job market, which would be particularly good news
Speaker 1: for one corner of the finance world, private equity.
Speaker 2: When it is cheaper to borrow money, you can borrow
Speaker 2: more money and therefore do larger and larger deals. And
Speaker 2: as the deals get bigger, the funds get bigger. As
Speaker 2: the funds get bigger, the profits get bigger. As the
Speaker 2: profit gets bigger, the firm grows, and pension funds make money. Ideally,
Speaker 2: the people working at the private equity firms make money,
Speaker 2: and it sort of becomes us like ever expanding as
Speaker 2: a class.
Speaker 1: That's Alison McNeely, who covers the private equity industry for Bloomberg.
Speaker 1: Private equity firms thrive off buying, flipping, and selling companies
Speaker 1: for a profit, and Allison says there's a reason they've
Speaker 1: been hungry for lower rates. After a half century of
Speaker 1: meteoric growth, the industry has found itself in a historic slump.
Speaker 1: But while the recent rate cut could encourage more deal making,
Speaker 1: private equities issues are much larger than what one FED
Speaker 1: decision could turn around.
Speaker 2: What's going wrong with PE is they are having a
Speaker 2: hard time selling assets, returning capital to investors, raising more money.
Speaker 2: It's been harder to sell companies and make profits for investors,
Speaker 2: and harder to raise new money from those investors and
Speaker 2: sort of keep the flywheel going of business.
Speaker 1: Private equity firms across the board are struggling to cash
Speaker 1: out of old investments, raise new funds, and most of all,
Speaker 1: produce the kinds of returns that their investors have come
Speaker 1: to expect, and Allison says privately, many institutional investors in
Speaker 1: PE are tempering their investment expectations for the next decade.
Speaker 2: When the private equity sort of fly machine is working properly,
Speaker 2: you're constantly raising new money in funds, putting that money
Speaker 2: to work, investing in new companies, selling companies, ideally in
Speaker 2: a profit that they've held for a long time. And
Speaker 2: you've got a sort of a constant churn of money
Speaker 2: coming in and out of the funds, being returned to
Speaker 2: investors and allowing the firm to grow.
Speaker 1: So that churn is what's grinding to a halt.
Speaker 2: Exactly.
Speaker 1: I'm Sarah Holder, and this is the big take from
Speaker 1: Bloomberg News today on the show Private Equity at a Crossroads.
Speaker 1: Why pe firms are struggling to buy, sell and fundraise
Speaker 1: the way they did and they're hated, and what that
Speaker 1: could mean for the industry's future.
Speaker 2: Proponents of private equity and people who believe in investing
Speaker 2: in it will tell you that it's a great asset
Speaker 2: class because it beats the stock market. If you want
Speaker 2: to make a lot of money, you should invest in
Speaker 2: private companies because there is basically more juice to squeeze
Speaker 2: than investing and say a publicly traded stock or bond
Speaker 2: for that matter. And so they will just say there's
Speaker 2: higher risk, but also higher reward. People who are skeptical
Speaker 2: of private equity will tell you it's a very expensive asset.
Speaker 2: Class fees are higher than say the fee that you
Speaker 2: would have to pay to buy a public stock in
Speaker 2: your brokerage account. The private equity firm takes a bigger
Speaker 2: cut through higher fees, and that they maybe don't produce
Speaker 2: as good or as strong of results as they say
Speaker 2: that they do.
Speaker 1: And there's an ongoing debate about how the industry measures success.
Speaker 2: As the industry has slowed down in the last couple
Speaker 2: of years, people have sort of shifted their focus to
Speaker 2: DPI or distributions to paid in capital. It is basically saying,
Speaker 2: if I give you a dollar, are you giving me
Speaker 2: a dollar back? Are you giving me a dollar fifty?
Speaker 2: Are you giving me two dollars? Or if I give
Speaker 2: you a dollar, are you giving me five cents back.
Speaker 2: I don't want five cents back. I want at least
Speaker 2: a dollar, preferably two dollars. And so as more private
Speaker 2: equity firms have struggled to reach that two or three
Speaker 2: dollars return, people are asking more questions about what the
Speaker 2: value is of private equity.
Speaker 1: The private equity industry peaked in the second quarter of
Speaker 1: twenty twenty one, when quarterly returns for you US firms
Speaker 1: hit around thirteen point five percent according to Pitchbook, But
Speaker 1: then came twenty twenty two.
Speaker 2: That is when the US Federal Reserved raised interest.
Speaker 1: Rates, and that was bad news for an industry that
Speaker 1: runs on debt.
Speaker 2: Firms have the companies that they acquire borrow money to
Speaker 2: facilitate deals, buying and selling. And so when you make
Speaker 2: debt more expensive by raising boring costs, which is what
Speaker 2: the Federal Reserve did in twenty twenty two, that makes
Speaker 2: it less attractive to do deals. And when it's less
Speaker 2: attractive to do deals, that means people aren't buying and
Speaker 2: selling as many companies and they are not generating profits
Speaker 2: for their institutional investors. And so what happens is you
Speaker 2: get a sort of a chicken and an egg problem
Speaker 2: where if you're not selling assets or selling companies and
Speaker 2: returning money to investors, they're in turn going to have
Speaker 2: less money to give you for future deals. Everything kind
Speaker 2: of grinds to a halt.
Speaker 1: The frenzied era for private equity was over. Last year's
Speaker 1: fourth quarter saw USPE firms report returns of just zero
Speaker 1: point eight percent. When Donald Trump took office in January,
Speaker 1: PE firms were optimistic that the new administration could help
Speaker 1: them turn things around.
Speaker 2: The president was perceived and is perceived as being pro
Speaker 2: business and creating a good environment for doing deals, potentially
Speaker 2: less regulation, less anti trust enforcement.
Speaker 1: But according to Allison, a lot of PE firms say
Speaker 1: Trump's tariff policies have made their jobs harder.
Speaker 2: People in the industry refer constantly to Liberation Day as
Speaker 2: being the moment when things might have changed. There is
Speaker 2: a lot more mixed feelings, I would say, among people
Speaker 2: in the private equity industry about the current administration. A
Speaker 2: lot of uncertainty around tariffs and the general policy stance
Speaker 2: on some of these key issues.
Speaker 1: That uncertainty and the threat that tariffs would reignite inflation
Speaker 1: held the FED back from lowering interest rates for months,
Speaker 1: even as Trump pushed for aggressive cuts. And while last
Speaker 1: week's quarter point adjustment could help PE firms borrow from
Speaker 1: the bank, the current economic environment is also making it
Speaker 1: harder for them to raise money from investors.
Speaker 2: When private equity firms go out to raise a new
Speaker 2: pool of capital, they generally have a target. They tell
Speaker 2: their pensions and their endowments. We plan to raise ten
Speaker 2: billion dollars, and hitting that target is an important signal
Speaker 2: to the market that there is confidence in this firm,
Speaker 2: there's confidence in the strategy, and that they are growing.
Speaker 1: Allison looked at one firm in particular that's experienced the
Speaker 1: recent fundraising slump firsthand, Insight Partners.
Speaker 2: Insight Partners invest in venture capital and private equity with
Speaker 2: a focus on technology, a very attractive, high growth space,
Speaker 2: really one of the hottest areas of private markets investing.
Speaker 2: When they went out to raise their most recent flagship fund,
Speaker 2: they indicated to the market that they were looking together
Speaker 2: about twenty billion dollars, which is the same as their
Speaker 2: prior fund.
Speaker 1: Is that a lot for that is a lot.
Speaker 2: That is a lot. That is a big fund. Inside
Speaker 2: Partners put a lot of money to work. They invested
Speaker 2: really during the heydays of investing in technology and software,
Speaker 2: when a lot of deals were getting done at really
Speaker 2: high valuations, and after interest rates went up, the deal
Speaker 2: making environment really changed. You know. They really said to
Speaker 2: LPs and private conversations, hey, we realized that we put
Speaker 2: a lot of money to work really quickly. The market
Speaker 2: was really kind of hot and busy, and we were
Speaker 2: out there with a lot of other folks doing a
Speaker 2: lot of deals.
Speaker 1: But we're really.
Speaker 2: Focusing on distributions and we're really focusing on returning capital
Speaker 2: to you our investor base. However, that message didn't entirely resonate,
Speaker 2: because Inside Partners ended up closing their fund earlier this
Speaker 2: year with around eleven point five billion.
Speaker 1: Dollars, so less than twenty billion, Yes.
Speaker 2: Less than twenty billion, and that was after they revised
Speaker 2: the target down previously, recognizing that maybe the landscape had
Speaker 2: changed and things were not as attractive for investing as
Speaker 2: they had been previously. And Inside Partners is hardly alone
Speaker 2: in having maybe not met their initial expectations for how
Speaker 2: much money they would raise. This has been a problem
Speaker 2: that has impacted many firms across the industry.
Speaker 1: How is this challenging moment for PE sitting with limited partners?
Speaker 1: Are they getting frustrated?
Speaker 2: It's really interesting limited partners, so the pension funds, the endowments,
Speaker 2: you know, traditional institutional investors in private equity will say
Speaker 2: sort of privately that they're very frustrated, but they're hesitant
Speaker 2: to speak out publicly because, in their view, private equity
Speaker 2: has been a good asset class to invest in for decades.
Speaker 2: They have done well by allocating money towards it, but
Speaker 2: also a sense at this point that they want to
Speaker 2: kind of wait and see and if the conditions for
Speaker 2: doing deals improve, maybe we're just going to go through
Speaker 2: a bit of a bumpy patch and things will get better.
Speaker 1: So just how are private equity firms adapting to this
Speaker 1: moment and will their strategies be enough to turn the
Speaker 1: industry around. That's after the break. The struggle is real
Speaker 1: for private equity firms and for the institutional investors who've
Speaker 1: given them money. The efirms are reporting lower quarterly returns
Speaker 1: and sitting on mountains of cash they haven't yet deployed.
Speaker 1: According to an estimate from the management consulting firm Vein,
Speaker 1: the industry was holding about one point two trillion dollars
Speaker 1: for potential deal making as of midyear. Bloomberg's Allison McNeely
Speaker 1: says some firms are leaning on new tactics to get
Speaker 1: back on track.
Speaker 2: There's sort of an emerging it's not even emerging at
Speaker 2: this point. It's a fast growing, robust area of private
Speaker 2: markets called secondaries. When a private equity firm goes out
Speaker 2: and buys a company, does a deal that's called a
Speaker 2: primary investment. So they raise a fund it's going to
Speaker 2: be in business for ten to twelve years. They're going
Speaker 2: to buy and sell deals out of that fund during
Speaker 2: the time, and then they're going to ideally like wind
Speaker 2: it down, sell everything off, and move on to the
Speaker 2: next fund. And that essentially means raising a new fund
Speaker 2: that has the express purpose of buying that existing investment
Speaker 2: out of the old fund, resetting the clock on it,
Speaker 2: bringing in new money to back it up, and buying
Speaker 2: themselves more time.
Speaker 1: So they're selling a company to themselves, and they're buying
Speaker 1: that company.
Speaker 2: They're effectively selling a company to themselves out of an
Speaker 2: older fund into a newer fund, and then simultaneously with
Speaker 2: the newer fund bringing in new investors.
Speaker 1: So does that mean the investors in the old fund
Speaker 1: get paid out at that point.
Speaker 2: They can if they want to. And so they say,
Speaker 2: we recognize this investments getting a little long in the tooth.
Speaker 2: We should be you know, selling it by now. We've
Speaker 2: brought in these new investors to cash you out if
Speaker 2: you want to be cashed out. But then also some
Speaker 2: investors are like, no, I believe in you I like
Speaker 2: this asset, I'm comfortable rolling over into the new fund
Speaker 2: and like sticking around for the ride.
Speaker 1: So this is something that private equity firms have done
Speaker 1: for a long time, but it's becoming more common in
Speaker 1: this kind of deal making environment.
Speaker 2: Yeah, these transactions, they have grown very quickly in the
Speaker 2: past couple of years as sort of an alternative because
Speaker 2: traditionally a private equity firm will sell a company by
Speaker 2: selling it to another private equity firm, by selling it
Speaker 2: to another company, or ipoing it listing it on the
Speaker 2: stock market. Those paths have been more difficult, and so
Speaker 2: essentially selling the asset to itself and other investors in
Speaker 2: these fund transactions is another way to kick the can,
Speaker 2: get some cash and kind of preserve optionality for the
Speaker 2: potential rebound of the deal market in the future.
Speaker 1: Does that raise any alarm bells?
Speaker 2: Yeah, there are some people who don't like them because
Speaker 2: these transactions, which they're called continuation funds. Don't worry about it,
Speaker 2: very jargony, But people don't like these funds because there's
Speaker 2: an inherent conflict when the same party is both the
Speaker 2: buyer and seller. Proponents of the deals will say, well,
Speaker 2: that's why we bring in new investors, they validate the price,
Speaker 2: they validate the value of the asset, and they basically
Speaker 2: make sure that transactions on the up and up.
Speaker 1: Meanwhile, the industry is also looking at other ways to
Speaker 1: bring in more capital, like getting private equity investments included
Speaker 1: in retirement portfolios. Allison. In August, Trump signed this executive
Speaker 1: order that's supposed to pave the way for private equity
Speaker 1: to enter into four oh one K's something we've talked
Speaker 1: about on the show before. What is the status of
Speaker 1: that push right now and what kinds of implications could
Speaker 1: it have for the industry and for people with a
Speaker 1: four oh one K.
Speaker 2: The four oh one K executive Order and just broadly
Speaker 2: the signaling of the current administration that they are open
Speaker 2: to private assets being in the hands of individual investors
Speaker 2: like this is the most exciting thing for the industry. Ever,
Speaker 2: it is potentially billions, if not a trillion at some
Speaker 2: point of dollars of new money. So the four to
Speaker 2: on K market to find contribution plans are about twelve
Speaker 2: point five trillion dollars in assets under management. They're almost
Speaker 2: entirely invested in stocks and bonds. If you can carve
Speaker 2: off even a sliver of that. You open up a
Speaker 2: massive new pool of money that can come in and
Speaker 2: start investing in private equity funds at a time when
Speaker 2: private equity firms have struggled to raise capital from their
Speaker 2: traditional investor base. The potential for you know, regular people,
Speaker 2: you and me and anyone else with a four one
Speaker 2: K plan to start investing in these funds as well
Speaker 2: opens up a really significant pool of money at a
Speaker 2: time when it is really needed by these firms.
Speaker 1: Allison says some of the PE experts she's talking to
Speaker 1: see this as a pivot moment for the industry.
Speaker 2: There are people in the industry who very much think
Speaker 2: that private equity needs to get back to its roots
Speaker 2: of buying and selling companies at multiple times what they
Speaker 2: paid for them, and making big bets and getting slam dunks.
Speaker 2: There are also people who will say, you know, these
Speaker 2: secondary transactions, the four one K money, all of this
Speaker 2: is actually just reflective of the growth and the maturation
Speaker 2: of private equity and private markets investing more broadly, that
Speaker 2: even if the deal market comes back in a meaningful way,
Speaker 2: all these sort of newer developments are here to stay
Speaker 2: and are just part of the range of options that
Speaker 2: firms have for how they raise capital and how they
Speaker 2: manage their investments.
Speaker 1: Could this moment lead to any broader soul searching at
Speaker 1: these PE firms about how they might build back differently
Speaker 1: moving forward.
Speaker 2: I think the soul searching that has occurred at private
Speaker 2: equity firms over the past couple of years has really
Speaker 2: been around distributions and potentially also the pace of growth.
Speaker 2: And I think in some corners of private equity there
Speaker 2: are some soul searching happening that you know, maybe twenty
Speaker 2: billion dollars for a fund is big enough. Maybe we
Speaker 2: don't need twenty five. Maybe we don't need thirty billion dollars.
Speaker 1: Maybe eleven is enough.
Speaker 2: Maybe eleven is enough because if we have a smaller
Speaker 2: pool of capital, we can focus on doing the right deals,
Speaker 2: being strategic and not trying to be so big.
Speaker 1: Yeah. Maybe it's a reset of expectations that boundless growth
Speaker 1: doesn't always have to be the goal.
Speaker 2: Just strategic growth, focusing on your knitting, focusing at the
Speaker 2: end of the day on buying and selling good companies
Speaker 2: and making returns for your investors.
Speaker 1: This is the big take from Bloomberg News. I'm Sarah
Speaker 1: Holder to get more from The Big Take and unlimited
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Speaker 1: Thanks for listening. We'll be back tomorrow