European LPs: optimism, naivety or realism?

How selective are LPs really being? What are the trends that are being set now as opposed to those pre-credit crunch?

Juan Delgado-Moreira

LPs are being very selective at this time. They have readjusted their investment strategies.

Antoine Drean

The current market situation has resulted in a 'flight to quality'; we should see considerably less of the 'herd/brand effect' simply because the credit market is not there any more.

What this means for GPs is that to survive they will have to KNOW how to add value and not just rely on the leverage as had been the case until this past summer's crunch. In the end this is a bit of a cleansing exercise: only those GPs with good teams will remain.

How will you expect GPs react to this?

Juan Delgado-Moreira

GPs will have to go 'back to basics' and they will have to be able to guarantee LPs the health of their investment portfolio and how the current situation affects it. Similarly, they will have to prove that they have a good deal flow.

North American LPs seem to believe that the global buyout boom has ended BUT there seems to be relative optimism among European LPs.

What is your point of view with regards to the apparent 'optimism' among European LPs vis-a-vis the buyout boom ending?

Franco Mosca

The asset class we are talking about is long term, 10-15 year tenure. LPs know that there are macro and microeconomic factors affecting the market cycles; thus ups and downs are to be expected. There is no reason for them to feel unfavourable towards this asset class.

Juan Delgado-Moreira

European LPs are not pessimistic in that they will continue to invest, but they will invest less and are aware that returns will drop in comparison with previous years.

To what would you owe this optimism?

Juan Delgado-Moreira

We would really have to separate UK LPs from continental European LPs. Indeed UK LPs have seen a similar situation to the US. Partly due to the type of deals characterising the UK market, the rest of Europe has seen a delay in experiencing the crisis. But it will see its effects at some point, although it might even take a year before it happens.

Antoine Drean

Mostly this is due to the fact that in North America private equity is an industry with about a 30-year trajectory, while in Europe this industry has only been active for a decade or so.

So while North American LPs have seen similar cycles, Europeans have not. This co-called 'optimism' could be due to two things:

1) Private equity remains - in spite of common beliefs - a 'safe' class asset when it is 'done right'; carried out under reasonable conditions.

2) Equally, the fact that in Europe portfolios are still being developed and consolidated, also provides room for investments to take place.

How long do you think this optimism can last?

Antoine Drean

It remains impossible to say. Overall the optimism is more realism. LPs will continue to invest because they have not yet met their targeted allocations.

As for special situation funds, these have become somewhat of 'the flavour of the year', but the truth is that the number of such European funds is limited, 3% at most. Similarly, it is not a simple thing to turn a company around; from that point of view, a leveraged buyout remains a less troublesome exercise.

Juan Delgado-Moreira

It is better not to predict when a cycle could end or begin as that affects the evolution of the process, but the Citigroup microeconomic outlook report recently published states that Europe will see slower growth especially mounting to 2009.

Franco Mosca

The industry will reinvent itself like it has it the past. It is its nature. Buyouts will not generate the same type of returns, but they will be re-engineered and financing will appear under different forms. The industry is here to stay. What will matter is the speed at which GPs will be able to adapt to the current situation and the expertise they will be able to bring with them.

What segment or segments will see the larger deal flow?

Franco Mosca

Italy will continue to focus on mid-sized industrial companies and family-owned businesses in sectors such as servicing, infrastructure management and energy.

Juan Delgado-Moreira

Non-cyclical sectors will see a larger deal flow, such as healthcare, energy, infrastructure (i.e. airport management), services (basic distribution) and telecoms.

What would you think will be the impact on European venture?

Antoine Drean

Private equity and venture capital are two very different types of asset classes. In the past year venture suffered from an excess of capital and insufficient offer of quality projects.

However, if there is less money available, but new and interesting technological projects, then we could see the formation of a positive spiral for European venture capital.

Franco Mosca

I believe European venture capital remains untapped mostly because no qualified venture firms have emerged, as opposed to the North American market where they have been established for a while. When these firms make their appearance they will be a driver for European venture capital.

Juan Delgado-Moreira

Buyouts will be fewer, so there will be more interest in European venture, whether this is justified or not.

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