According to data from Dealogic, private equity deal volumes have experienced a substantial decline of 63 percent compared to the same period last year, amounting to $293.5 billion.
This drop can be attributed to higher borrowing costs, which have prompted private equity firms to pursue fewer deals and steer clear of businesses with unpredictable cash flows, Reuters news report said.
Since the beginning of the year, buyout firms have struggled to secure inexpensive debt, resulting in a departure from the traditional leveraged buyouts. Instead, they have been relying on their own funds, as cheap debt has become increasingly elusive.
David D’Urso, a partner at the US law firm Akin Gump Strauss Hauer & Feld, explained that rising interest rates have made private equity deals more expensive, while inflation has eroded target companies’ profit margins. As a consequence, sellers’ expectations for valuations resembling those of 2021 are simply not feasible under the current circumstances.
Analysts have also highlighted that an unfavorable market for initial public offerings (IPOs) has contributed to the slowdown. Private equity firms have encountered greater challenges when trying to exit investments due to this unfavorable environment. Additionally, the financing landscape for companies and startups has become more complicated, especially for those that typically rely on funding from private equity firms, as banks have also reduced corporate lending.
Matt Farrell, senior investment manager at WE Family Offices, emphasized that companies seeking private equity funding now face a scenario with less capital available, potentially leading weaker companies with limited cash reserves to cease operations. Late-stage startups have been particularly affected, as many of them previously prioritized aggressive growth without considering costs.
Consequently, these companies have been compelled to reduce their cash burn rates, and the few that manage to secure funding do so at significantly lower valuations than before the downturn, as noted by Faraz Shooshani, managing director and senior private markets consultant with Verus.
The data from Dealogic further reveals that deal volumes in the US have more than halved to $162.5 billion compared to the previous year, while activity in Europe and Asia (excluding Japan) witnessed declines of 70 percent and 80 percent, amounting to $77.3 billion and $19.1 billion, respectively. Specifically, technology deal volumes dropped by 75 percent to $16 billion, while healthcare and finance sector deal volumes decreased by 70 percent and 64 percent to $8 billion and $7.6 billion, respectively.
Furthermore, the fundraising efforts of buyout firms have also suffered a decline this year, as limited partners have scaled back their support. Limited partners, who allocate capital to private equity firms, have contributed $325 billion to private equity funds thus far in comparison to $459 billion during the same period last year, as indicated by data from Preqin.
Nevertheless, private equity firms have found solace in the boom of private credit. They have stepped in to provide debt to companies after traditional lenders pulled back. The rise of direct lending has helped mitigate some of the risks associated with equity investments, enabling private equity firms to benefit from consistent and stable returns.
Timothy Tracy, global client service partner at EY, has observed a significant increase in financing for US and European deals from private credit funds.
Looking ahead, some analysts anticipate a rebound in private equity dealmaking in the near term, as buyout firms still have a portion of the funds they raised over the past two years that have yet to be deployed.