The Return of Private Equity

“There is a disturbance in the force. The dark lord of private equity has returned.”

Private equity has gotten really active over the last two quarters of this year. There are a lot of factors driving them back into the market.  It’s not necessarily low valuations.  The market has rallied smartly from it’s lows way back in February of 2009.  Private equity was totally crippled by the break.

Not only was equity crashing, but the credit market was destroyed too.  PE can’t get a thing done without a fluid credit market.  The investors in PE also began hanging on to their cash.  It was very hard to find fresh cash to invest because of fear and panic.

Pre-crash, Private equity was hot.  It was more fashionable to graduate from B school and get a PE job than an investment banking job!  Credit markets were overheated, so it was easy and cheap to get massive deals done.  Valuations were high, but it didn’t matter since all the other working parts of the deal played into the PE firms hands.  Blackstone did their IPO right before the fall.

But today, there is something else afoot driving firms to seek buyouts, and for PE firms to be so aggressive.  Today, it was announced that KKR was buying Del Monte foods.  Del Monte’s stock is already up 62% this year!  The stock is up 23% since there was rumor of a deal on November 18.  Nice return if you rode the wave!

Last week, retailer JCrew agreed to be acquired.  Deals are seemingly being announced every week.  Why are PE firms being so aggressive?

There are a couple of forces driving the private equity mania right now.  One is the value of the dollar.  As the dollar devalues, PE firms cannot sit on their hands.  They need to invest those dollars to beat inflation.  The Fed QE2 policy, while telegraphed, added to the urgency of the activity.  Secondly, even though we had an election there has been zero action on extension of current tax policy.  The PE firms need to get these deals done this quarter to take advantage of taxes.  Expected increased taxes next year change the behavior of firms.  Firms that would like to be bought begin courting different firms aggressively.  PE firms that have companies they would like to spin out sell. This creates more cash to buy new firms at higher valuations.

It’s kind of interesting to see where they are going.  Lots of small food deals have been happening over the past several months.  People have to eat, even in a bad economy.  The Del Monte deal was done because they make staples that people use to cook at home, and for their pet food division.   Pet foods are recession proof.

On the fundraising side, people with investable cash are putting their money to work in PE firms.  There is less confidence in the broad market, and more security in putting it up with a PE firm that will use it to buy and established company.  Tax incentives favor debt, so it’s a perfect strategy for the well heeled investor to hedge coming dollar devaluations.

Expectations for the future among many are that in a stagflationary, or inflationary environment, food prices will increase dramatically.  PE is hedging their exposure to the dollar in food companies.

Many of the PE people I have had conversations with have been active in the mining. PE firms are buying hard commodities. They are traveling the US looking for opportunities in the entire mining space chain of distribution.

So, I am not so bulled up by all this buy out activity.  Instead, I see it as a symptom of the broader themes going on.  The smartest guys in the room see inflation is coming right around the corner, and they are preparing for it.

Welcome FT Alphaville Readers!


The information in this blog post represents my own opinions and does not contain a recommendation for any particular security or investment. I or my affiliates may hold positions or other interests in securities mentioned in the Blog, please see my Disclaimer page for my full disclaimer.

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