Private investors are buying publicly traded companies on the cheap, taking advantage of suppressed share prices despite high rates of interest.
According to analysts, cash-rich private equity firms are cherry-picking bargains on the stock market, as the number of buyouts of UK PLCs this year has already reached its third-highest annual volume in 10 years.
Nicholas Moura, research analyst for EMEA capital markets at data provider Pitchbook, which is owned by Morningstar Inc, said private equity firms are busy “sweeping” up listed companies at cheaper valuations.
“Given the drop in certain public market companies over the past two years, we have seen PE companies sweeping these suppressed companies at cheaper valuations than they were previously worth,” Moura explained.
He added that due to a dislocation in pricing compared to United States counterparts: "What we then saw was a trend of US-based investors snapping up UK corporates."
Dry powder
This surge in ‘take-privates’ — a term given for the privatisation of a PLC — has been fuelled by the vast sum of spare cash known as ‘dry powder’ that private equity as an asset class has amassed in recent years, which Bain & Co said stood at about US$3.7 trillion globally at the end of 2022.
“The increase in take-privates from PE sponsors has to do with the amount of dry powder some of these PE giants have amassed over the past few years,” Moura said. “2021 was all about megadeals while the current cautious environment has been more accommodating to add-on type of acquisitions.”
According to the capital markets analytics provider,16 publicly listed UK companies were bought by private investors in 2023 (through to the end of August), which is already more than the 14 so-called ‘take-private’ transactions executed last year.
However, the amount paid to buy publicly traded companies is shrinking, suggesting some caution on behalf of private buyers.
The combined value of UK PLC takeovers was £6.3 billion this year, about half the £12.5 billion of deals last year, and little more than a fifth of the £30 billion spent on 17 transactions in 2021, according to Pitchbook data.
Cheaper prices
The total value of take-private deals amounts to the fourth-lowest sum in 10 years, amid a “cautious” environment precipitated by high inflation and rising interest rates.
Moura estimates that take-private deals are approximately 50-80% cheaper than they were a year ago.
UK investment bank Peel Hunt observed in its latest monthly M&A report on Wednesday that takeover bids this past year were “the lowest average quarterly equity value per firm” since before Covid-19 (in the second quarter of 2020).
The average equity value per firm in the second quarter of 2023 was just a quarter of the average £1 billion price offered over the last two years, at £252 million, Peel Hunt said in the report.
That excludes buyout firm EQT's nearly £4.5 billion takeover of Dechra Pharmaceuticals PLC (LSE:DPH), which according to Moura was a “bargain” despite being one of the largest bids for a UK publicly listed company this year after the pharma group witnessed its share price halve since a peak in 2021, and Brookfield’s £2.2 billion bid for Network International Holdings PLC (LSE:NETW).
Michael Nicholson, head of M&A at Peel Hunt, said in the report: “The focus of activity has been clear with smaller AIM quoted companies being taken private by financial sponsors and/or management teams.
“In many cases, a large management shareholder has provided the key to unlocking a transaction, symptomatic of the questions being raised over the value of a listing to smaller corporates with limited liquidity and a share price dislocated from fundamental value.”
Appetite among management
The report described “increased receptiveness amongst shareholder management teams” to private takeovers, citing a relatively high proportion of management shareholders in deals.
Peel Hunt said private equity “has been the clear marginal buyer”, accounting for 70% of firm offers for UK PLCs in the third quarter, up from 50% in the first and second quarters.
The average market cap of companies under offer in the third quarter was around £190 million, most of which were listed on the AIM segment of the larger London Stock Exchange, showing smaller companies were targets.
“Increasing numbers of smaller companies are questioning the merits of remaining listed, fuelling the supply side of transactions,” Peel Hunt said, describing a climate of suppressed share prices and associated “low trading liquidity” that provides listed companies with “limited access to capital".
Private firms are taking advantage of these dovish market expectations, despite creeping interest rates that make the price of leverage on takeovers more expensive.
Buyout firms “have been paying less for these so the overall deal value remains lower than in 2020 and 2021”, Moura said.
He explained: “There has been a bit of a double whammy at play here: one coming from a drop in markets (in part due to the tightening of monetary policy of course) and one from the increase in interest rates.”
Because “financing for large take-private transactions remains tight”, this in turn is “sustaining ongoing volume at the small/micro cap segment of the market”, Peel Hunt said in its report.
The asset class would not want to waste exit values, which according to Pitchbook have been rising for four consecutive quarters, by paying higher prices.
Private equity as a model for takeovers typically involves the use of leverage, or debt, to finance transactions in the form of a management buyout.
Buyout firms can insulate themselves to some degree against high interest rates by moving towards private debt, through privately funded takeovers.
"We have seen a tremendous move into private debt over traditional syndicated loan markets,” Moura said.
Fewer private takeovers in view if markets recover
Until markets recover, Moura expects more “depressed” pricing in take-privates, with deals mainly comprising add-on companies.
Yet as the public markets pick up pace, the number of take-privates and add-on deals is expected to decline.
“We also expect sweeping changes to the LSE which may help boost its attractiveness and slowdown take-privates,” Moura said, adding that: "When IPOs pick up again, perhaps towards the end of the year and start of next year; we may see less take-privates.”