New data has thrown potential doubt on the reliability of private equity valuations, which are often a core component of listed investment trust holdings.
The data, which shows sales of private equity assets fell to their lowest level in over a decade in 2023, casts new light on a problem that has been plaguing listed trusts as well as private equity managers.
How realistic are private equity valuations? This is a question that has cropped up repeatedly in the past year amid an unabated dislocation between high private equity valuations and comparatively cheaper publicly listed assets.
Private equity exits fell to their lowest value in over a decade in 2023, as the total value of sales slumped by two-thirds over two years (since 2021), according to new data from research firm Pitchbook. The number of deals has also declined by nearly half in that time.
Globally, sales by private equity firms were worth a combined total value of US$574 billion in 2023, down 27% from US$783 billion in 2022.
The dearth of sales in the cash-rich private equity sector, which is sitting on a US$4 trillion war chest of unspent capital, also has implications for the public markets.
For a start, relatively high valuations of privately held assets have boosted the attractiveness of private equity compared to public markets, exacerbating a cycle of depressed share prices.
Conversely, this arbitrage has created an opportunity for public investors to tap into high prices by investing in listed trusts, which often commit capital to private equity assets.
Many listed funds allow shareholders to invest in privately held, private equity assets, because they in turn invest capital in third-party managed companies owned by private equity managers.
Whether the relative lack and lower value of exits in the underlying private equity assets is good or bad for listed funds is a matter of perspective.
Sales of assets owned by private investment firms, known as ‘exits’, are often included as part of a basket of prices that inform estimates of the underlying worth or net asset value of this type of listed fund.
Lately, high valuations of assets held by private equity firms have come under scrutiny, as they have become increasingly disconnected from the implied value of publicly listed assets from their share prices.
The dearth of deals done in the private equity sector suggests these valuations might not be realistic, which could in theory mean NAVs are overblown and justify steep discounts on listed trusts.
But it is perhaps too early to tell, as the price discovery that takes place in sales of privately held businesses has not yet been fully borne out.
Further complicating the matter is the symbiotic relationship between the public and private markets.
For example, the total value of private equity exits derived from public listings in 2023 was significantly larger than in 2022, according to Pitchbook.
The value of overall private equity sales meanwhile fell by about a quarter in 2023, while the enterprise value of the assets as a ratio compared to both revenue and underlying earnings both declined, the data provider's data showed.
The data company added that fewer exits have meant less cash has been returned to investors in the sector, which is putting pressure on private equity managers to sell more assets this year.
Private equity funds meanwhile continue to rake in capital, with new fundraising increasing to US$556 billion last year compared to 2022, according to the data.
This easy capital raising indicates the “structural shift” that has been taking place towards private equity over a number of years, Pitchbook said.
Whether that bubble can last, without strong sales to underpin that cash, remains to be seen.