Private equity players divided on reason for decline in exit deals

Private equity players have seen a sharp drop in exit deals during the pandemic but opinions are divided on the cause.
 
Is it because of the longer time taken to close a deal with due diligence in an uncertain and digital world? Is it that buyers are uninterested and investors are in serious trouble?
 
Or perhaps private equity (PE) players are waiting for the impending IPOs announced by start-ups which they hope will give them the best return on their investment?  Until the IPOs happen, they are postponing exit deals.
 
According to data from VCC Edge which tracks PE investments, in the first quarter of the calendar year, the value of total PE exit deals has fallen by 7 per cent to hit $1,938 million.
 
However, fresh PE investments have risen by 43 per cent in the same period. As a result, the value of PE exits as a percentage of new investments has fallen sharply from 45 per cent in the first quarter of the calendar year 2020 to only 29 per cent in the first quarter of this year.   
 
The move tops a similar trend in 2020 when the total value of exits fell by 34 per cent from $6,650 million in 2019 to $4,377 million in the calendar year 2020. Fresh investment, however, went up by 9 per cent in the same period to hit $38.9 billion.
 

In explaining the decline in exit deals, experts point out that a key sign of a maturing market is when the gap between the value of exits and new investments narrows. The profits are invested back and this is a reflection of confidence of the market.
 
But there are varying views on why exit deals have been declining. Bala Deshpande, founder partner of PE company MegaDelta Capital Advisors, says her company has been able to undertake only three exits during the pandemic.
 
She blames due diligence for the low number generally: “I believe that exits are coming down, not because of interest or intent but because of the sheer logistics of due diligence, especially for international acquisitions. But this drag factor will lead to a flight to quality assets,” she said.
 
Deshpande said that, depending on the sector, the average time taken to close a deal earlier in the case of a complete sale or a minority stake sale was around three to six months. Now it takes six to nine months.
 
She points out that prospective buyers are figuring out how to do appropriate diligence, especially of the team, the promoter and the market, without being able to travel or meet physically.
 
Some fund managers are worried. “It is possible that some investors are holding longer periods, beyond just four to seven years, in their portfolio companies. But in many cases, there are signs of things not going well. It also means that many PEs who have aggressively invested over 2008-13 have been unable to make planned exits,” said the managing director of a leading US-based global PE fund.      
 
Others such as Parth Gandhi, former partner in AION Capital and a PE veteran, argue that the exit numbers are low because investors are postponing their decision till the companies in which they have put money go for IPOs.
 
“Exits have declined due to the emergence of listed markets as a viable exit mechanism. The potential IPOs of companies such as Zomato which are not yet profitable and previously could not be listed are now possible. This could be a better exit mechanism for PE firms with better valuations compared to selling it to another PE. We should see a large exit dollar number in the months to come,” said Gandhi.
 
This assessment is backed by two factors. One, the expectation that  start-ups will go for IPOs of around $8-10 billion in the next year and that many of them, such as InMobile, Byju’s, and Paytm, have already set up plans for the offering.
 
Two, PE funds have invested $40 billion in 37 unicorn companies alone.