Global Economic ImpactofPrivate Equity

World Economic Forum’s Research Project

2008

Large-sample studies

21,397 private equity transactions that could be identified between 1970 and 2007

The most comprehensive database to date on worldwide leveraged buyout (LBO) transactions

Private Equity (1) Equity capital that is not quoted on a public

exchange. Private equity consists of investors and funds that make investments directly into private companies or conduct buyouts of public companies that result in a delisting of public equity. Capital for private equity is raised from retail and institutional investors, and can be used to fund new technologies, expand working capital within an owned company, make acquisitions, or to strengthen a balance sheet.  

Private Equity (2)

The majority of private equity consists of institutional investors and accredited investors who can commit large sums of money for long periods of time. Private equity investments often demand long holding periods to allow for a turnaround of a distressed company or a liquidity event such as an IPO or sale to a public company.

Private Equity (3F) Many private equity firms conduct

what are known as leveraged buyouts (LBOs) where large amounts of debt are issued to fund a large purchase. Private equity firms will then try to improve the financial results and prospects of the company in the hopes of re-selling the company to another firm or cashing out via an IPO.

Public-to-private transactions ! Public-to-private transactions, which have

been the focus of earlier buyout research and media attention, only account for 6.7% of all transactions.

Measured in terms of dollar value, public-to-private transactions represent 28% of the firms acquired.

The vast majority of buyouts are acquisitions of private firms and corporate divisions.

Holding periods

Almost 60% of private equity fund investments are exited more than five years after the initial investment.

The length of time firms remain under the control of private equity investors has increased in recent years.

Bankruptcy

6% of buyout transactions end in bankruptcy or financial distress. This translates to a default rate of 1.2% per year, compared to an average default rate of 1.6% for US corporate bond issuers and 4.7% for US junk bond issuers.

Innovation Focused portfolios – The patenting level is

little changed after buyouts, but awards have a higher economic impact. More economically important innovations.

The patent portfolios of PE-backed firms become more focused in the years after the investments. 

Private equity-backed companies maintain comparable levels of cutting-edge research.

Private equity-backed firms concentrate on core technologies.

EMPLOYMENT GROWTH (1)at existing establishments

Employment has a "J-curve" pattern in the years pre-and-post buyout. In the two years preceding a buyout, employment in target establishments grows more slowly than in the control group: the average cumulative employment difference in the two years before the transaction is about 4% lower for the targets than the controls. The growth at the controls continues to be greater than the targets in the three years after the transaction: in the two years after the buyout, the average employment difference is 7% lower for the targets than the controls. In the fourth and fifth years after the transaction, employment at private equity-backed firms mirrors that of the control group.

Employment Growth (2F) · Employment growth at greenfield facilities

– When the opening of new "greenfield" facilities after the private equity investment is examined, an opposite pattern emerges. Firms backed by private equity have 6% more greenfield job creation than the control group two years after the buyout.

Greenfield jobs are defined as jobs that would not otherwise have been created.

Governance

Fine-tuning of governance Private equity board members are

most active in complex and challenging transactions. Private equity groups appear to adjust their board representation based on the anticipated challenges in the investments

EXIT IPOs account for 13% of private equity

investment exits,and this exit route seems to have decreased in relative importance over time.

The most common exit route is trade sales to another corporation, accounting for 39% of all exits.

The second most common exit route is secondary buyouts (24%), which have increased in importance over the last decade.

Putting it all together (1)

The substantial periods that firms remain under private equity control, the robust long-run investments in innovation as measured by patents and the flexible governance structures (with small boards dominated by managers and investors) appear consistent with the view that the LBO organizational form is a long-run governance structure for many firms.

Putting it all together (2)

The results regarding private equity’s impact on employment – as well as those in the innovation study – fit the view that private equity groups act as catalysts for change in the economy.

Putting it all together (3F)

The evidence supports neither the apocalyptic claims of extensive job destruction nor arguments that private equity funds create huge amounts of domestic employment.