That was my warning back in December, based on historical data that the worst-performing private equity funds were born of boom-years like 1997 and 2006. I also was concerned that deal valuations were being further inflated by firms under pressure to either “use or lose” capital raised several years ago (PE funds usually only have five years to build a portfolio).
I’ve raised that second point repeatedly at industry conferences, only to be dismissed by self-serving private equity pros. “We wouldn’t violate our fiduciary duty to limited partners just because a fund is nearing the end of its investment period,” one argued. “No one deal is worth damaging our reputation in that way.”
Well, obviously I’m not talking about offering $100 per share for a company trading at $20 per share. I’m talking about putting an internal valuation ceiling at $25 per share, and then offering $26 or $27 in a final round of bidding due to fears of losing the deal (because getting the deal is more important than getting the best deal). Not the sort of thing most limited partners would be able to notice, let alone act on.
So I was pleased to learn that I’m not a solitary worry wart. Bain & Company — a global consultancy now independent from PE firm Bain Capital — today released its annual Global Private Equity Report, which included the following item:
This is one of those theses that will be impossible ever to prove, since transaction announcements don’t come with valuation justifications. But that doesn’t diminish either its validity or its damaging consequences.