Private Equity: Opportunities and Challenges Presentation to: CFA - PowerPoint PPT Presentation

Private Equity: Opportunities and Challenges Presentation to: CFA Society of Pittsburgh November 16, 2011 Eric L. Thunem Managing Director Portfolio Advisors, LLC

Alternative Investments Hedge Funds Leveraged Buyouts g y Infrastructure Venture Capital S Special Situations i l Sit ti Real Estate R l E Distressed Debt Managed Futures Mezzanine Natural Resources Secondaries Secondaries Private Equity Funds Co-Investments Timber Timber O h Other 1

Private Equity • Provides capital to companies not quoted on a public stock exchange • Multiple uses: • Multiple uses: • Develop new products and technologies • Expand working capital • Facilitate company growth F ili h • Strengthen a company’s balance sheet • Resolve ownership and management issues • Domestic and International Strategies include: • Buyouts: Large, Middle Market, Small-Cap • Venture Capital: Seed/Early-stage, Late-stage, Multi-stage • Special Situations: Distressed Debt, Mezzanine, Multi-Strategy/Opportunistic gy pp 2

Where Private Equity Fits Company Growth Cycle Early Stage; Entrepreneurial; Established; Mature; Development High Growth Level Growth Cyclical Venture Capital Buyouts, Sub Debt Special Situations rofit Restructuring Revenue/Pr R Private Mostly Public Time 3

Avenues for Investing in Private Equity • Start your own Business • Control, Management, Focus • Concentrated Risk • Invest in a Privately Held Company • Influence, Shared Ownership • Single-Company Risk • Participate as a Limited Partner in a PE Fund • Passive Ownership, Diversified Holdings p, g • Single-Manager Risk, Limited Vintages • Invest in a Private Equity Fund-of-Funds • Broader Diversification – Industry, Manager, Geography, Vintage o de ve s c o dus y, ge , Geog p y, ge • Diversified Risk, Fees may Lower Overall Returns 4

Perspectives • Entrepreneurs and Business Owners • Active Partners, Value Add, Liquidity • Ownership, Control • Limited Partner Investors and their Advisors • Returns, Diversification, Long-Term Horizon • Illiquidity, Perceived Risk, Lack of Information, Fees • General Partner Investors / Sponsors • Returns, Active Strategies, Timing , g , g • Deal Flow, Fund-Raising, Exit Environment • Other Constituencies • Other Constituencies • Banks, Regulators, Politicians, Media 5

Entrepreneurs / Business Owners • Private Equity Opportunities • PE managers can add value to enterprises • Potential source of expansion financing • Additional expertise in specific industries • Governance and corporate best practices • Liquidity for generational transfer Li idi f i l f • Private Equity Challenges • Ownership changes • Control may shift • Leverage can become a growth driver 6

New Companies/Small Businesses * Headd, B. Redefining Business Success: Distinguishing Between Closure and Failure, 2002 # Shane, S. Startup Failure Rates – The Real Numbers, 2008 * Source: smallbusinessplanned.com ^ Phillips & Kirchhoff. Small Business: Critical Perspectives 1989 Two years: 7 out of 10 Survival rates for new employer firms (U.S. Department of Commerce statistics, March 2010) Five years: 5 out of 10 ve ye s: 5 ou o 0 Ten years: one third 15 years: one quarter 7

New Companies/Small Businesses Source: State of Washington, Department of Revenue, excise tax data 2002 through 2005 8

Global Buyout Annual Investments Amount Invested ($billions) Number of Deals $200 $200 7,000 7 000 $180 6,000 $160 5,000 $140 $120 4,000 $100 3,000 $80 $60 2,000 $40 $ 1,000 $20 $0 0 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 3Q11 Source: Thomson Reuters Venture Economics , October 27, 2011 9

Global Venture Capital Annual Investments Amount Invested ($billions) Number of Deals $160 $160 18,000 18 000 16,000 $140 14,000 $120 $120 12,000 $100 10,000 $80 8 000 8,000 $60 6,000 $40 4,000 $20 2,000 $0 0 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 3Q11 Q Source: Thomson Reuters Venture Economics , October 27, 2011 10

Limited Partners and their Advisors • Opportunities • Perceived out-sized return potential • Diversification • Long-term appreciation is possible • Programs may become self-funding • Challenges • Information is not readily available • Investments are illiquid • Risks can be concentrated • Measuring risk can be a challenge • J-Curve: returns may be negative in early years • Minimum investment levels may be high; access is limited • Minimum investment levels may be high; access is limited 11

Basic Mechanics: Hypothetical Cash Flow • $1 million commitment $400 $300 $200 $200 $100 $0 -$100 -$200 Annual Drawdown Annual Return of Capital -$300 1 2 3 4 5 6 7 8 9 10 Years

Basic Mechanics: Hypothetical Net Invested • $1 million commitment $1,000 Cumulative Return ($) $800 $600 $600 $400 $200 $0 -$200 65% 65% to 80% 80% -$400 Net Invested -$600 -$800 $800 1 2 3 4 5 6 7 8 9 10 Years

Private Equity Performance: Time Horizons 30% 24.2% 25% 20% 17.0% IRR % 15% 11.9% 10.3% 9 4% 9.4% 10% 6.5% 6.2% 4.3% 5% 2.2% 0% 3 Months 6 Months 9 Months 1 Year 3 Years 5 Years 10 Years 15 Years 20 Years Source: Thomson Reuters Venture Economics , November 10, 2011. Data as of 6/30/2011 14

Private Equity Performance: Stages 20% 16.0% 15.4% 15.1% 14.9% 15% 13.4% 12.8% 12 4% 12.4% 12 0% 12.0% 11.7% IRR % 9.9% 9.4% 10% 5% 0% All Venture Seed/Early Later Stage Balanced All Buyouts Small Medium Large Mega Generalist All Private Capital Stage Stage Buyouts Buyouts Buyouts Buyouts Equity Source: Thomson Reuters Venture Economics , November 10, 2011. Data as of 6/30/2011 S Th R V E i N b 10 2011 D f 6/30/2011 15

Private Equity Performance: Vintage Years 25% 21.5% 19.4% 19.3% 20% 17.5% 16.1% RR % 15% 15% IR 12.3% 11.6% 10% 8.0% 6.7% 6.1% 5.4% 5.2% 4.6% 5% 1.8% 0.3% 0% 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 Source: Thomson Reuters Venture Economics , November 10, 2011. Data as of 6/30/2011 16

Importance of Manager Selection 10 Year Returns: Upper Quartile vs. Lower Quartile Managers 25% 19.5% 20% 15% 9.7% 9.4% 10% 2.9% 5% 0% Private Equity Large Cap Equity International Core Fixed Equity Income Source: Clearbrook Perspectives, 2010 (eVestment Alliance and Cambridge Associates) 17

Performance Persistence 100% 100% 10% 10% 90% 22% 31% 80% 24% 28% 70% 70% 28% Q4 Successor Fund 60% Q3 Successor Fund 27% 33% 50% 29% Q2 Successor Fund 40% Q1 Successor Fund 26% 30% 24% 20% 39% 33% 24% 24% 10% 12% 0% Q1 Predecessor Fund Q2 Predecessor Fund Q3 Predecessor Fund Q4 Predecessor Fund 2011 Preqin Private Equity Fund of Funds Review 18

Private Equity Investment Options Investing through fund-of-funds can provide greater diversification Investor 3 Fund of Funds Fund of Funds • # f PC • # of PCs: 250 to 400 250 t 400 A Private Equity Fund 2 • Lowest risk • # of PCs: 15 to 20 • “Single manager” risk 1 Direct Investment Private Equity Private Equity Private Equity Private Equity • # of Portfolio Companies (PC): 1 Fund Fund • Single company, highest risk PC 1 PC 1 PC 2 PC 3 PC 20 PC 1 PC 2 PC 3 . . . . PC 20 . . . . 19

Global Fund-of-Funds Annual Fundraising Amount Raised ($billions) Number of Funds $70 0 250 $60 200 $50 $50 150 $40 $30 100 100 $20 50 $10 $0 0 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 3Q11 Source: Preqin , November 8, 2011 20

General Partners / Sponsors • Opportunities • Recurring management fees are possible • Long-term significant capital gains are possible • Investment strategies may involve active roles • Historically lower level of public scrutiny • Managers may have some control over exit timing M h l i i i • Challenges • Regulatory oversight is increasing • Deal flow may not be truly proprietary • Traditional exit routes may exhibit volatility • Big payday may happen only after LPs get returns • Fund raising • Fund-raising • Competition 21

Global Buyout Annual Fundraising Amount Raised ($billions) Number of Funds $350 400 350 $300 300 $250 250 $200 200 $150 150 $100 100 $50 50 $0 0 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 3Q11 Source: Thomson Reuters Venture Economics , October 27, 2011 22

Global Venture Capital Annual Fundraising Amount Raised ($billions) Number of Funds $180 1,600 $160 1,400 $140 1,200 $120 $120 1,000 $100 800 $80 600 600 $60 400 $40 200 $20 $0 0 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 3Q11 Source: Thomson Reuters Venture Economics , October 27, 2011 Source: Thomson Reuters Venture Economics , October 27, 2011 23

Other Impacts/Influences on LPs and GPs • Overall economic climate • Public equity markets P bli it k t • Banks and other debt providers • Federal and state regulators F d l d l • Media outlets; broad and industry-specific • Politics P li i • Perceptions 24