Has the tide turned for private equity?
The tide could be turning for private equity as the industry forecasts a better investment environment and an improved fundraising season for venture capital trusts (VCTs).
After a couple of disastrous years, the private equity sector is now looking perkier with venture capital trust fundraising predicted to hit £300 million this year and reports of money on the sidelines waiting to be invested. Last year fundraising was less than £150 million.
LPEQ - or Listed Private Equity, a trade body representing 17 European private equity companies - reveals that all its members believe the investment environment in 2010 will be better than that of 2009, with over half believe the availability of debt will improve this year.
More than a quarter (27%) of the members think 2010 will be the best year for the last three years.
Wilken von Hodenberg, spokesman of the board of management of Deustche Beteiligungs AG, a member of LPEQ, says: "We are optimistic as to the investment outlook for 2010 and although company valuations have increased somewhat, there remain a number of good value investment opportunities."
Ian Barrass, manager of Henderson Private Equity Investment Trust, is also 'cautiously optimistic'.
"Private equity will come back into favour," he adds. "There is still a lot of money waiting to be invested, especially in large companies."
Private equity investment trusts have outperformed the FTSE All-Share and MSCI World Index since the start of the century, but in 2008 it all went wrong. A perfect storm of excessive leverage among the large cap buy-out sector, reduced valuations of companies held by private equity vehicles, a dramatic fall in the stock market and almost no bank debt hit the industry hard.
Some investment trusts, like Candover, almost went bust.
According to Barrass, there is now a better mix of experienced people within private equity firms and if investors avoid the over-geared large buy-out investment trusts, they could pick up a bargain.
The Henderson trust currently sits on a 51% discount, although Barrass thinks it will narrow after the year-end results are issued next month.
After low levels of fundraising in VCTs during the past few years, VCT managers are also beginning to be more upbeat.
Matt Taylor, partner of Foresight Venture Partners, predicts the next two to three years will be an attractive time to invest in a VCT.
"If you look at the track record for private equity, investors that came in close to the bottom of the market, at the depths of recession, have done very well," he says. "And the opportunity to get in at a low price lasts for quite a long time."
Tony McGing, director of Downing Corporate Finance, predicts VCT fundraising will hit £300 million this year, the highest it's been since 2006.
VCTs may also see a surge in revival as people turn to them for retirement planning. As high earners will see their pension contributions become less tax efficient next year, VCTs could play a part in pension portfolios.
"People with larger pensions that can take a sophisticated view could use VCTs, especially planned exit ones. The 30% tax relief can be realised after five years, and you can invest again and again: that's very tax efficient," says Taylor.
Planned exit VCTs are the most popular type of VCT with more than £60 million worth of funds raised in the 2008/09 tax year. Generalist VCTs are the second most popular.
Aim VCTs are struggling to survive: in the last tax year they didn't raise any funds.
"Aim VCTs are not doing well and I don't expect there to be much of a pick-up in money raised," says McGing. "Planned exit VCTs are in vogue as it's nice to have an exit."
However, there are a couple of potential dangers on the horizon, which could affect different asset classes and investment products including private equity.
First, the need to plug the public deficit and/or a change of government this spring could see vehicles like VCTs amended or possibly even scrapped. McGing hopes the Tories will support VCTs if they win the election though, as they have traditionally backed them.
Second, the UK economy is still not out of the woods and there is a chance we could experience a double dip recession. Barrass admits that if this happened it would be a 'nightmare' for the private equity industry.
Venture Capital Trusts were introduced in 1995 to encourage private investments in the small-company sector by offering tax relief in return for a minimum investment commitment of five years. A VCT is a company, run by a fund manager, which invests in other companies with assets of no more than £7m that are unlisted (not quoted on a recognised stock exchange) but may be listed on the Alternative Investment Market (AIM) or plus with the aim of growing the companies and selling them or launching them on the stock market. Investors in new VCTs are offered desirable tax advantages and VCTs themselves are listed on the London Stock Exchange, with strict limits laid down by HM Revenue and Customs on what they can invest in and how much they can invest.
The term is interchangeable with stock exchange, and is a market that deals in securities where market forces determine the price of securities traded. Stockmarket can refer to a specific exchange in a specific country (such as the London Stock Exchange) or the combined global stockmarkets as a single entity. The first stockmarket was established in Amsterdam in 1602 and the first British stock exchange was founded in 1698.
Investment trusts are companies that invest money in other companies and whose shares are listed on the London Stock Exchange. As with unit trusts, private investors buying shares in an investment trust are buying into a diversified portfolio of assets (to reduce risk), which is managed by a professional fund manager. Investment trusts differ from unit trusts in two important ways: they are listed on the stockmarket and so are owned by their shareholders and are closed-ended funds with a finite number of shares in issue. This means the share price of investment trusts might not reflect the true value of the assets in the company (known as the net asset value, or NAV) and if the NAV value of a share is £1 and the share price in the market is 90p, the trust is said to be running a discount of 10% to NAV. But this means the investor is paying 90p to gain exposure to £1 of assets. Investment trusts can also borrow money and use this money to buy investments. This is known as gearing and a geared trust is thought to be more of an investment risk than an ungeared one.