Private Equity Urged to ‘Capitulate’ to Clear Buyout Backlog

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(Bloomberg) — A “constipated” private equity industry must compromise on price to shift assets built up in the boom era, and some buyout houses could disappear altogether, senior executives say.

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The reckoning is one of several major challenges confronting private markets as industry leaders gather at the SuperReturn conference in Berlin.

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Fears about the impact of artificial intelligence on the once-hot software sector, a struggle to distribute capital, skittish retail investors and the war in Iran have all taken a toll. Meanwhile, hopes have fizzled that buyout firms could pick up the pace on company exits this year.

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Victor Khosla, the founder of credit investor Strategic Value Partners, pointed to price gaps between would-be buyers and sellers. “There are entire sectors like private equity, like real estate, that are constipated. They can’t sell,” he said Wednesday, speaking on the conference’s sidelines to Bloomberg TV.

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Private equity “lost its way a little bit” during a decade of near-zero interest rates, Scott Kleinman, co-president of Apollo Global Management Inc., told Bloomberg TV.

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Speaking in general about the industry, he said it lost its focus on paying reasonable prices and improving businesses. Funds raised from 2017 to 2022 are particularly struggling.

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“The inventory of private equity-owned companies is really, really high,” he said. Now, firms will “have to start capitulating for sure on valuations” and some managers will have to raise smaller funds or “go away,” Kleinman said.

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Still, he said the industry was making progress on digesting assets — a process he has likened before to a pig moving “through the python.”  

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Buyout firms shouldn’t depend on the IPO market, but should focus on owning and running businesses that can generate cash and pay dividends, said Anuj Ranjan, chief executive officer of Brookfield Asset Management Ltd.’s private equity unit.

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Not Equal

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Executives were divided over the challenge AI poses to the software sector, previously a favorite of both private equity firms and direct lenders.

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Khosla of SVP said his firm had zero exposure: “The businesses that get into trouble in software don’t just get into a little trouble, they fall off a cliff,” he said.

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After private credit got a “little bit toppy,” lenders are likely to see lower recoveries and more severe losses when defaults occur, particularly for software loans made in 2020 and 2021, said Jack Neumark, co-chief executive of Fortress Investment Group.

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And John Redett, co-president at Carlyle Group Inc., said limited partners want the private equity firms they invest with to move away from software and toward the real economy.

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“The old world is the new world and what LPs want to talk about are industrial businesses, defense, national security, supply-chain resilience and energy,” Redett said in a panel discussion.

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However, software is among the best-performing sectors at Goldman Sachs Group Inc.’s asset management arm, which has focused on large, mission-critical applications.