6 January 2023 Private equity groups struggle to raise cash

Private equity groups struggle to raise cash​

What do you need to know this week?

Private equity giants like Blackstone and Carlyle are struggling to raise capital, reflecting weakening private investment markets.

Last week, Carlyle Group failed to meet its deadline to raise $22bn in its newest private equity fund, in a trend echoed by other managers like Apollo and KKR.

Making matters worse, some private equity groups like Blackstone are seeing their limited investment partners attempt to prematurely redeem their stakes in the funds. The cumulative effect is that private equity sponsors will have less capital available to deploy on acquisitions and other private market transactions.

Why is this important for your interviews?

The struggle for private equity fundraising reflects weakening market conditions. Understanding the dynamics behind the fundraising deficit will also help you understand private capital funds work more generally.

Though private equity is now recognised as one of the most valuable asset classes in the market, having raised nearly $1.2 trillion in 2021, this was not always so.

Modern private equity houses — which operate by buying underperforming companies at a competitive value, toying with their management and assets for a few years, and then selling them for a profit — date back to the 1980s. That said, the asset class’s meteoric growth did not really begin until after the 2007-08 Global Financial Crisis, which saw central banks slash interest rates in an effort to stimulate the economy.

Private equity houses took advantage of the historically low rates to borrow increasingly massive sums of debt to fund the acquisition of target companies, which translated into eye-watering returns on investment that often exceeded 20% — far more than what most investors could make in the public equities and bond markets.

In an effort to get a piece of the action, the largest institutional investors, which primarily consist of pension and insurance funds, invested more and more of their capital with private equity houses. This resulted in the largest private equity houses raising increasingly large funds.

However, in light of negative performance in the equities and bond markets throughout 2022, the relative exposure of institutional investors’ balance sheets to private equity as an asset class increased. This is a serious problem for these investors because they typically have strict limits on how much exposure they can have to any given asset class.

For instance, only 10% of their total capital may be available for private equity, with the rest distributed to real estate, equities, and bond investment opportunities. As illustrated by the table and accompanying two pie charts below, when the value of an institutional investor’s equities and bond portfolios decreases due to public market volatility, the relative value of their private equity holdings increases.





As a consequence, these institutional investors are now refusing to invest further in private equity funds in an effort to rebalance their portfolios.

How is this topic relevant to law firms?

Private equity fundraising is a complex process which law firms play an instrumental role in facilitating. All the various parties in a private fundraise including the private equity sponsor and the co-investors rely on lawyers to advise them on the most efficient fund structures to minimise their tax liability and maximise their returns.

Firms with first-rate funds teams include Kirkland & Ellis, Simpson Thacher & Bartlett, Macfarlanes, and Paul Hastings.

From the business perspective of law firms with funds teams, lower volumes of fundraising translates to lower fees, which in turn means less capital available to fund private market transactions, thereby impacting corporate practice areas as a result of the deal desert.