The 2016 Global Outlook & Review Dow Jones Private Equity Analyst • Dow Jones Private Equity News The 2016 3 Global Outlook & Review To the Reader From the Desk of LAURA KREUTZER when we published the first edition of what has become our annual outlook In late 2006, supplement, the private equity industry was deep in the biggest buyout boom in its history. With the publication of the 10th edition of this supplement, some aspects of the market bear an eerie resemblance to those days. Debt is cheap. Deals are not. Firms that can point to a solid track record have been able to raise funds with relative ease. Those in the midmarket, in particular, can often raise amounts that are considerably larger than their prior offerings. But many limited partners remember all too well the carnage that followed the excesses of the 2006 and 2007 boom years. No doubt, memories of the difficult period that followed the boom contributed to the faint current of caution that appears to have crept back into limited partner mindsets as 2015 drew to a close. Whether LP concern will translate into a slower fundraising year in 2016 remains to be seen. Over the years, this supplement often has tried to tap into our inner psychics to pinpoint future trends. We weren’t always right in our predictions for the year to come. Back in 2006, for example, several members of our editorial team predicted private equity fundraising would level off or even slow down in subsequent years so general partners could digest all of the money they raised in 2006. Boy, did we get that one wrong! However, more recently, we have gotten a few things right. Last year, we foresaw the increased appetite among LPs for first- time funds and spinouts and also pointed to a movement toward larger funds and faster fundraising periods in the middle market as well as the growing influence of co-investment capital on market dynamics. All of these trends intensified in 2015. As we look ahead to 2016, we foresee a continued appetite for new funds but also a growing number of LPs adopting more defensive strategies with their commitments. Although small and midmarket funds remain the darlings of the LP community, 2016 may be the year things finally begin to look up for distressed debt and special situation funds as more LPs seek to hedge their bets against a frothy deal environment. As we head into a new year, we believe the air will eventually start to come out of the high pricing that has developed in the past 18 to 24 months. Whether or not we are right in the timing of our predictions will have to wait until next year’s supplement. contents Fundraising u Investors Prep for Active 2016, but Many Plan to Proceed Cautiously ....................................... 4 Secondary u Uncertainty Could Complicate Secondary Deals in 2016 .................................................................12 Venture Capital u Herd of Venture-Backed Startups With Billion-Dollar Valuations Could Thin in 2016 ........14 Rising Stars u Select 2015 profiles excerpted from Private Equity Analyst ............................................................18 Timeline u 2015: The Year in Private Equity ..........................................................................................................................20 Copyright © 2015 Dow Jones & Company, Inc. All rights reserved. u The 2016 Global Outlook & Review was published in January 2016. u Dow Jones & Company is a News Corporation Company. 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Photo Credits u cover: Pavelk/Shutterstock.com; p3, 8: MyImages - Micha/Shutterstock.com (pig); p3, 12: alphaspirit/Shutterstock.com (roads); p3, 14: Eric Isselee/Shutterstock.com (herd); p3, 18: Krabikus/ Shutterstock.com (red carpet); p3, 20: eskay/Shutterstock.com (trophy); p4: ©istockphoto.com/OJO_Images; p20: ©istockphoto.com/RoosterHD (SEC), Nils Versemann/Shutterstock.com (GE), Justin Sullivan/Getty Images (Ellen Pao), Africa Studio/Shutterstock.com (money pots), Manfred Steinbach/Shutterstock.com (autobahn); p22: ©istockphoto.com/ssiltane (Tokyo), file404/Shutterstock.com (money transfer), MR. INTERIOR/Shutterstock.com (Dell), ArtisticPhoto/Shutterstock.com (Chinese flag), Feoktistoff/Shutterstock.com (capitol building), littleny/ Shutterstock.com (Bumble Bee Seafoods) 55% Recycled Fiber 30% Post Consumer Fiber The 2016 4 Global Outlook & Review Investors Prep for Active 2016, but Many Plan to Proceed Cautiously By LAURA KREUTZER and JENNIFER BOLLEN last year if not their hard caps, often with more investor demand than they could accommodate. At the same time, firms are fundraising engine returning to market with new funds sooner than expected, often Private equity’s chugged at full throttle seeking larger amounts of capital, a trend that is particularly in 2014 and remained steady in 2015, fueled largely by a pronounced among small and midmarket firms. healthy supply of cash flowing back into investor portfolios. As 2016 unfolds, investors expect that engine will continue to run All of this activity has stoked fears recent vintage year vehicles for both small and large funds, thanks partly to the volume of will produce disappointing returns. A slowdown in the volume capital seeking higher returns. of initial public offerings in recent months, along with signs of a more challenging leveraged loan market and an economic However, underneath the fundraising furor, more investors slowdown in many emerging market economies has injected a have begun to question how much longer the good times degree of uncertainty into investor mindsets that was not as can last. prevalent at the end of 2014. “It’s been a really healthy and active fundraising environment “There is big divergence between private multiples and where for a number of years now, and the music is going to stop people think the value ought to be for deals,” said David Fann, eventually,” said Kevin Campbell, managing director and president and chief executive at TorreyCove Capital Partners. portfolio manager at DuPont Capital Management. “But the “Really good companies are trading at 13-times cash flow in big question is how long can it keep going, and how does the buyout space, and historically, nobody made a reasonable the industry absorb the capital?” rate of return on private equity when multiples were more than 10 times. People are pricing these deals for perfect execution.” Limited partners, placement agents and fund formation attorneys said they expect U.S. private equity fundraising to Some investors also question whether all of the money limited remain busy in 2016, with many of the same trends that partners have recycled back into the asset class will put some emerged in 2015 continuing into the year ahead. Firms that at risk of hitting or exceeding their allocations, should the public generated strong returns in prior funds quickly hit their targets markets experience another dramatic downturn. The 2016 5 Global Outlook & Review A Small and Midmarket Cornucopia LPs have plenty of funds to choose from in the coming year, particularly in the small and midmarket segments. U.S. A Look Back midmarket buyout shops that returned to the fundraising trail 10 Years of Memorable Outlook Quotes in late 2015 or that expect to return in 2016 include Arsenal Capital Partners, Avista Capital Partners, Berkshire Partners, 2007 “Nobody is making any more predictions and there is no Thoma Bravo, Kohlberg & Co., Leonard Green & Partners and outlook at this point. Last year, they kept saying it would be the Vista Capital Partners. end of this year…but larger deals keep getting done…There is no letting up.” A survey of 104 investors conducted by placement agent –Robert Polenberg, a director with S&P Capital IQ’s Leveraged Commentary and Data, speaking about the potential for a credit Probitas Partners found U.S. midmarket buyout funds, defined market downturn as funds ranging from $500 million to $2.5 billion in size, ranked as the most popular strategy among LPs in 2016, 2007 “Management teams are refusing to take that much leverage. followed closely by U.S. small buyout funds, defined as less They are telling us, ‘I don’t feel like running a company if you’re not than $500 million. going to do something to lower that leverage.’” –Joe Nolan, a principal at what was then GTCR Golder Rauner Strong investor demand has allowed certain midmarket (now GTCR), speaking about portfolio company resistance to the firms to raise much larger pools than they did last time high debt loads buyout firms wanted to place upon them around, a trend LPs predict will continue into 2016. Audax Group, Genstar Capital and American Industrial Partners 2007 “I don’t expect anything to come out of this investigation, all raised funds in 2015 that were significantly larger than but I do foresee PE funds putting in place safeguards and their prior offerings. guidelines for how they invest with other PE firms.” –Marco Masotti, a partner with Paul Weiss Rifkind Wharton & Although investors say some firms can successfully Garrison LLP, on the Department of Justice investigation into possible anticompetitive practices associated with club deals manage a fund-size increase, particularly if it is accompanied by a matching increase in investment staff, 2008 “The biggest opportunity [in 2008] is to take advantage of others contend LPs need to tread carefully. Dan Cahill, a the carnage: Take advantage of pendulum swings and people’s managing partner at midmarket-focused fund-of-funds emotions.” manager Constitution Capital Partners, said his firm –Mark St. John, CVC Capital Partners declined to re-up with at least one manager in its portfolio due to concerns over fund-size inflation.