As 2024 unfolds, the US private equity (PE) market stands at a pivotal juncture. While familiar headwinds persist, pockets of robust expansion beckon discerning investors. To navigate this terrain, a nuanced understanding of both the challenges and burgeoning potential is paramount. This analysis aims to summarise key trends shaping the US PE landscape in the coming year.
Tech Triumphs: A Beacon of Growth
The tech sector stands as a beacon in a landscape of uncertainty. Tech-focused PE funds are projected to generate an average internal rate of return (IRR) of 30%, significantly outperforming the anticipated 20% average of diversified funds. This divergence underscores the enduring resilience of tech, even amidst broader economic anxieties. However, securing capital to capitalise on this growth might not be straightforward. Dampened LP enthusiasm due to past disbursement disappointments could lead to a decrease in overall buyout capital raised. Consequently, PE firms with compelling narratives grounded in demonstrably robust tech opportunities will hold an advantage in attracting funding.
Healthcare on Hold: Awaiting the Green Light
While healthcare remains a vital sector, complex platform deals involving mergers between healthcare services companies are likely to experience a temporary slowdown. The culprit? Higher interest rates, which inflate borrowing costs and render these debt-heavy transactions less attractive. However, this pause should be viewed as a strategic one, paving the way for renewed activity once the Federal Reserve eases its monetary policy stance.
Continuation Capital: A Strategic Lifeline
Facing continued pressure from LPs to return funds, PE firms will increasingly turn to continuation funds as a strategic manoeuvre. Over 100 such transactions are anticipated, marking a significant shift in the paradigm. Continuation funds offer an avenue for liquidity while allowing firms to retain promising portfolio companies in a sluggish exit environment. This trend exemplifies the growing sophistication and adaptability of the PE ecosystem, adeptly responding to dynamic market conditions.
Extended Holding Periods: A Marathon, Not a Sprint
Patience will be the new gold for PE investors in 2024. The lackluster exit climate is expected to push the median holding period for US PE-backed companies to a record high of 4.4 years. This necessitates a shift in mindset, demanding a long-term perspective beyond quick, opportunistic exits. Building value through operational excellence and strategic guidance will become paramount for maximising returns in this extended holding period environment.
Founder Frenzy: The Allure of Agile Innovation
Founder-owned companies are poised to attract significant PE attention in 2024. Their entrepreneurial spirit, proven track records, and potential for exponential growth are expected to propel them to represent 60% of all US PE buyouts. PE firms increasingly recognise the agility and innovation inherent in such entrepreneurial ventures, making them highly desirable investment targets.
Co-Investment via SMAs: Control, Agility, and Fee Efficiency
Beyond the traditional benefits of SMAs (separate managed accounts) for control and liquidity, LPs are increasingly leveraging them for strategic co-investments. This maneuver offers a triple-threat advantage:
Reduced Fees: Bypassing commingled funds and their fees allows LPs to capture a larger share of returns, aligning with their focus on long-term performance maximisation.
Tailored Allocations: SMAs empower LPs to curate co-investment opportunities that precisely align with their unique investment theses and risk tolerances. This level of control surpasses the one-size-fits-all approach of commingled funds and allows LPs to capitalize on specific sectors or themes with higher conviction.
Nimble Movement: Compared to the cumbersome structures of traditional funds, SMAs offer agility in capital deployment. LPs can seize fleeting co-investment opportunities quickly and efficiently, ensuring they don't miss out on promising deals.
This trend towards co-investments via SMAs reflects a growing desire among LPs to exert greater control over their PE portfolios. Beyond the direct financial benefits, co-investments foster deeper relationships with fund managers, enabling LPs to gain valuable insights and participate more actively in portfolio construction.
In Conclusion: Embracing Agility and Opportunity
The US PE market in 2024 will be a test of adaptability and resilience. While certain sectors face temporary headwinds, others offer significant potential for discerning investors. Embracing tech opportunities, leveraging continuation funds strategically, adopting a long-term perspective, and recognising the value proposition of founder-owned companies will be crucial for success. Moreover, utilising co-investments via SMAs for control and fee efficiency, and exercising patience in the healthcare space will further differentiate successful PE firms from their peers. Ultimately, 2024 presents a compelling landscape for those who can navigate the shifting currents and capitalise on the emerging opportunities with clarity and strategic foresight.
Author: Ethan Khatri. Managing Director, Private Equity & Venture Capital
References:
General Market Trends:
Preqin. (2023). LP Allocations Report 2023.
Private Equity International. (2023). Global Private Equity Survey 2023.
PitchBook. (2023). LP Perspectives Annual Report 2023.
Tech Sector:
Institutional Investor. (2023, September 26). Tailoring Private Equity Portfolios: Separate Accounts vs. Funds.
Private Equity International. (2023, October 17). The Rise of Separate Accounts in Private Equity.
Continuation Funds:
PERE Magazine. (2023, November 14). LPs Look to Separate Accounts for Control and Liquidity.
PitchBook. (2023, December 07). Continuation Funds on the Rise as LPs Demand Liquidity.
Holding Periods:
eVestment. (2023, September 21). Private Equity Holding Periods Reaching Record Highs.
Preqin. (2023, October 05). US PE Holding Periods Expected to Increase in 2024.
Founder-Owned Companies:
Private Equity International. (2023, November 02). Gründerzeit: Why founder-led businesses dominate German PE.
Bain & Company. (2023, July 11). Why Founders Love Private Equity.
Co-Investments via SMAs:
Alternative Assets. (2023, December 12). LPs Drive Surge in Separate Accounts for Co-Investments.
PERE Magazine. (2023, October 10). SMAs Gain Traction as LPs Seek Customization and Control.
Healthcare Sector:
Private Equity International. (2023, December 15). US Healthcare M&A: Why the party's on hold.
Financial Times. (2023, November 29). Healthcare deals cool in US as rising rates bite.
