By Paul Richardson – Sales Director
The last few years has been a period of transformations with the world population now aware of the effects of a pandemic and the resultant restrictions and changes on economic and individual behaviour. Geopolitical tensions still exist and any conflict has implications further beyond the physical locality of that engagement. Whilst for investors the US IPO market has been strong for the last 20 months and this seems likely to continue. The Chinese IPO market, which had attracted numerous investors over the last decade has lost its allure and other regions are likely to favour from a re-weighting. While the US federal government has had a major style shift and policy with the Biden Presidency.
For many in the West this is combined with a new work-life balance, a change to a hybrid work culture, and new economic landscapes has meant the trends for Private Equity in 2022 and onwards will most likely see a different narrative to what we have seen in previous years.
Greater Scrutiny of Investors & Investments
The explosion of the conflict between Russia and Ukraine has and will be a catalyst to a greater demand by national governments and their regulators for PE fund managers to fully understand their investors and from where the monies for investment has truly originated. Greater scrutiny will ensure that certain investors, individual and entities, will be excluded from the economic ecosystem or their part within it reduced. Nevertheless, there will still be more than sufficient monies available to invest in PE. Moreover, there will likely be greater analysis of the investment and the implication of the transaction, and this will probably result in a demand for more and greater investigative due diligence.
Understanding Global Inflationary Pressure and the Investment Cycle
With the world emerging from the restrictions on individual movement due to Covid combined with the limitation of supply for raw materials due to global tensions this has helped contribute to inflationary pressure within many countries. This has been highlighted by both the BofE and Fed raising interests, and more is likely to come, to combat inflation. The PE firms that will succeed in the amidst of this uncertainty will have to be able to model risk and adapt accordingly. This will probably see a change in focus to analyse investments earlier in the cycle as PE firms will need to lock in acquisitions earlier to ensure lower rates on the debt capital market and valuations on purchase are not increased to reflect greater global inflationary pressure.
Greater Emphasis on the Supply Chain
Greater focus will take place on company supply chains and what contingencies they have in place. Potential or existing supply chain issues could also mean re-allocating resources to help portfolio companies regionalise or localise their supply chains, re-focusing their model from ‘Just-In-Time’ to storage and distribution paradigms or to look to widen their supplier base. This will probably see a reduction in the vogue for Just-In-Time but not a full return to Just-In-Case with instead a hybrid model particularly for manufacturing, food and retail falling somewhere on the Just-In-Time versus Just-In-Case curve.
The rise of new sectors for Investment
Technology and healthcare has and will remain a strong focus for PE, but investment in retail will need to be reconsidered after Morrisons, transfer of ownership from being a listed company to a PE firm, along with other sectors which have been seen previously as unglamorous, such as food production. The restrictions placed upon individual movement patterns during Covid and the resultant exponential rise of on-line purchases does not mean that this way of shopping will remain constant. Creativity within the retail sector will mean that new products and concepts will emerge and PE teams will need to be constantly searching for these innovations.
Environmental, Social and Governance (ESG) is here to stay
ESG has sharply climbed up the corporate agenda and is here to stay. Until recently it was little more than a talking point, but major institutional investors have now started to incorporate this within their investment processes. Consequently, PE firms will have to follow this shift as portfolio company customers and employees and LPs will demand more sustainable and socially responsible corporate behaviour. Europe has taken a strong lead by the introduction of its Sustainable Finance Disclosure Regulation (SFDR), just over a year ago, which requires private equity firms and other asset managers to meet certain disclosure requirements for their investments related to climate, diversity and governance. Despite this lead and to general surprise, the UK government chose not to introduce the SFDR into UK domestic law. However, SFDR will most likely still be relevant for UK PE firms either as a requirement under the regulation or in practical terms as a UK-based fund manager that wants to market into the EU or manage EU-based funds, will be subject to the SFDR in its capacity as an AIFM.
Even if a UK firm does not have to comply with the SFDR, the UK government has made no secret about its intentions to put green finance higher on its agenda. In November 2020, the Chancellor announced that the UK will be the first country in the world to make disclosures that are aligned with the Task Force on Climate related Financial Disclosures (TCFD) fully mandatory by 2025, going beyond the “comply or explain” approach adopted under the SFDR.
These trends are likely to gather pace and may make the previous years look pedestrian as we enter a dynamic and changing future.