The independent surveys are all in. Depending upon which one you read, 2015 was either a great or a subpar year for the private equity deal market in the U.S. Perhaps it was both depending upon whether you were a seller or a buyer. In any event, as the year developed the challenges for private equity sponsors looking to deploy capital increased, and those challenges have continued into the start of 2016. Those challenges include high valuations for assets, a shaky leveraged finance market (particularly for the lower-rated credits and for the more junior traches of debt), a scarcity of good assets to buy and strong competition from strategics for the available good assets.
Some of the strategies that we saw in 2015 (and expect to continue to see in 2016) by sponsors seeking to deploy capital in this environment include the following:
- Pre-empt Auctions — Due to the scarcity of good assets available for sale, sponsors pre-empted a number of auctions in 2015. This strategy may be harder to execute in the current leveraged finance environment due to the difficulty in obtaining satisfactory debt commitment papers on an expedited basis.
- Dual Track IPO/Sale Processes — Dual track IPO/sale processes were popular with sponsors in 2015 for assets with the profile to make successful IPO candidates. This strategy may also be harder to executive in 2016 given the current volatility in the global equity markets.
- Focus on Add-On Acquisitions — Also due to the scarcity of good assets available for sale, a significant portion of sponsor deal activity in 2015 focused on add-ons. We would expect this strategy to continue in 2016.
- Rise of Alternative Leveraged Finance Lenders — We continue to see an increasing number of alternative leveraged finance lenders in the market. These include a number of new entrant direct lending funds. The alternative lenders should provide a more stable, albeit more expensive, financing environment for lower middle-market and middle market buyouts.
- Clubbing Your Second Lien — A number of syndicated deals in 2015 experienced great difficulty in placing the second lien. We have seen some sponsors club together lenders (usually alternative lenders) to buy the second lien in advance of syndicating the first lien. This favorably impacts the execution of the first lien and gives the seller confidence that the debt will be there on a timely basis for closing.