May 25, 2024

Happy Saturday! With Kia away, this is Axios Pro's Michael Flaherty coming out of the Pro Rata bullpen. In lieu of trivia, enjoy a postcard from Ireland.

๐Ÿ‡บ๐Ÿ‡ธ Before we start, I'd like to say thank you to all who have served this country, including my late grandfather John Flaherty, who served in Europe in WWII and died in the Korean War. Respect and honor, truly.

Today's Smart Brevityโ„ข count is 923 words โ€” a 3ยฝ-minute read.

1 big thing: PE's tied up in knots

Illustration: Gabriella Turrisi/Axios

Private equity has a problem.

Why it matters: The industry is failing to exit investments at a pace that keeps up with limited partner demand, creating a tension that could have broad impacts.

By the numbers: Private equity firms are sitting on $3.2 trillion worth of unsold assets, Bain & Co. says, and sponsors have an estimated $4 trillion of dry powder. Normally, that would be a decent balance.

Yes, but: Exits aren't really happening, and neither are sponsor-to-sponsor deals. GPs are stuck in an IRR model and clinging to companies for dear life.

  • "I think you have GPs in love with assets," Hamilton Lane co-CEO Erik Hirsch said at an Axios event this week.
  • "If they own a great business that's compounding at double digits, they're reticent to sell it, because trying to find a new asset that they can acquire today that they're going to grow at double digits" is going to be tough.
  • That reticence is what's driving the tension: Why would an LP commit more capital to a GP who hasn't distributed money? (A similar dynamic is playing out in venture capital.)

Friction point: "There's a big backlog in terms of both deployment and exits after two years of much weaker activity," said Rob Pulford, the Americas head of the Financial and Strategic Investors Group at Goldman Sachs.

  • The recovering IPO market is a key solution to the exit problem, Pulford notes. Follow-ons, block trades and other ECM products can help too.

Between the lines: Thanks to the two-year-long dearth of deals, DPI is the new IRR.

  • Distributed to paid-in capital is the dominant industry conversation. Gone are days when GPs would routinely hit a 2X home run for investors. Now they can barely get to 1X, and LPs are asking: Where's our money?
  • In fact, the global DPI average for funds raised in 2019โ€“22 is at 0.12X, according to Goldman. Getting to 1X, and doing so early, is usually the goal โ€” LPs are paid back and the rest is gravy. That isn't happening.
  • "If a sponsor hasn't returned enough capital to their LPs โ€ฆ relative to their peers, I think that's the catalyst for more exit activity," Goldman's Pulford notes.

What's next: Private equity buying is on the upswing. The ECM market is there for the taking. But with LP distributions still rare, GPs continue to scramble for extensions and continuation funds.

  • "I've never seen a fundraising logjam like what we're seeing today," said Hamilton Lane's Hirsch.
  • "There's a real gapping that's occurring. So there are some ultra-successful firms that are raising a lot of money. And then I can show you right now the other 1,500 folks that are kind of in the queue that are nowhere near their target."

2. DPI is the new IRR

A line chart showing global average distributions to paid-in-capital by years since fund inception. Funds incepted between 2007 and 2014 reached a DPI of 1x faster than those incepted later. Distributions for funds incepted 2015-2018 have recently slowed, and the 2019-2022 vintage has fallen drastically behind the others.
Data: Goldman Sachs, Dealogic, Preqin; Chart: Axios Visuals

Three letters hover over GP-LP conversations these days: DPI.

Why it matters: The way that investors in private equity firms measure the benefit of their relationship is changing, and that is creating turmoil across the industry.

Zoom in: This year an investor attending an annual meeting at a large private equity firm wore a T-shirt that said "DPI is the new IRR," according to Bloomberg.

  • Distributed to paid-in capital is a fancy way of saying the money invested vs. the money back in LPs' pockets. It's a real, hard number, as opposed to the future value aspect of the IRR.
  • Goldman Sachs, using a formula and various data providers, reveals in a chart published in March that current vintage funds are well below normal DPI levels.
  • The culprit: Sponsors aren't willing or able to sell assets fast enough, and that explains why LPs are pushing back when GPs come around asking for more money.

๐Ÿ“š Due Diligence

  • They Built a $100 Million Watch Empire. Then the Market Tanked (The Wall Street Journal)
  • How 3M Discovered, Then Concealed, the Dangers of Forever Chemicals (The New Yorker)
  • The Rise and Fall of Simon Sadler's Segantii, One of Asia's Most Successful Hedge Funds (Bloomberg)

๐Ÿงฎ Final Numbers: PE volumes year to date

A table that displays the volume and number of U.S. private equity-backed M&A deals from 2019 to 2024, as of May 23 of each year. The volume peaked in 2021 at $212 billion, with 2,228 deals, then slightly decreased afterwards. As of May 23, 2024, there has been $149b of M&A volume with 1,010 deals.
Data: LSEG; Chart: Axios Visuals

The buyside is busy.

Why it matters: Private equity firms are finally spending their money.

Zoom in: Year to date, the value of sponsor-led deals is up 38% to $148.7 billion, according to LSEG. The number of deals is down sharply.

  • This year has seen a few large public-to-private deals, a trend that bodes well for companies seeking to tap out of the stock market and for GPs seeking to put larger chunks of cash to work.
  • Permira's agreement to buy Squarespace is a case in point.

What we're watching: CLO formation has significantly picked up, and both traditional banks and private credit funds are engaged with sponsors. PE deals are still below where they were a few years ago, but momentum seems to be building for GPs ready to spend more.

๐Ÿ‡ฎ๐Ÿ‡ช Postcard from Ireland

The Boss in Dublin. Photo: Michael Flaherty

I spent Sunday night at Dublin's Croke Park, watching Bruce Springsteen close out his Ireland tour.

Zoom in: Neighborhood rules dictated that the Boss and the E Street Band start at 7pm sharp and end at 10pm. And that's exactly what they did, playing three hours straight in front of 80,000 fans.

Yes, but: Croke Park didn't seem ready for the crowd โ€” it took our group nearly an hour just to get in, as queues stretched through side streets.

Flashback: The last time I was at Croke Park was in July 1997, when I was doing a study program at University College Galway. My visiting brother and I rented a car to watch the NFL play an exhibition game there.

The bottom line: Ireland is awesome, Dublin is amazing, and the Boss never disappoints.

๐Ÿซก Signing off for a long weekend, when I'll be attending my nephew's wedding on the great North Shore of Massachusetts. Sunday morning will be slow.

๐Ÿ‘ Weekend tune: Hoping for a sunny day for the aforementioned wedding, so Blue Sky it is, though not the studio version. The Boston one.

๐Ÿ™ Thanks for reading, and please send feedback, tips, thoughts by reply to this email.