Spotlight on: US sponsors
Despite mounting headwinds, US PE sponsors remain a force to be reckoned with when it comes to European inbound investment. David Cannon, managing director of KeyBanc Capital Markets, Clearwater International’s US partner, explains the enduring attraction of European targets – and why dealmakers are getting more creative.
US PE investment in Europe plunged in Q3 against a backdrop of rising inflation, higher borrowing costs and ongoing geopolitical turbulence. Deal volume was down markedly, with 51 transactions in Q3 versus 117 the previous quarter. Aggregate deal value was also sharply lower, with US inbound investments totalling US$11.2bn compared to US$81.8bn in Q2. That said, Q2 was always going to be hard to beat, particularly in terms of deal value, which was the highest on record.
Lower equity valuations and weakening currencies relative to the dollar create opportunities for US investors
Dealmakers are, understandably, being cautious given current headwinds. But there are tailwinds, too. One of these is the continuing strength of the US dollar relative to European currencies – and against sterling in particular, which slumped spectacularly in Q3. Meanwhile, softening public markets continued to yield buying opportunities.
“Large deals are continuing to close,” confirms David Cannon, Managing Director of KeyBanc Capital Markets, the corporate and investment banking arm of US-based KeyCorp. “Take-privates have been a common theme – financial sponsors have a tremendous amount of dry powder to pursue assets at discounted multiples. Lower equity valuations and weakening currencies relative to the dollar create opportunities for US investors.”
In addition to take-privates, there is an increasing focus on reinforcing existing portfolio companies. Add-ons are a particular area of interest. “Sponsors are looking to create value through buy-and-build strategies,” says Cannon. “PE firms that are reluctant to make a platform investment in Europe are much more comfortable doing buy-and-build with an asset they already own. There is a much greater openness to transacting like that.”
Sectors of interest include business products and services, green energy, infrastructure, and healthcare
Focus on fundamentals
Rising inflation and higher interest rates make for a difficult dealmaking climate. So unsurprisingly, investors are looking for targets that promise long-term resilience. “Businesses that are able to pass on cost increases and endure inflationary impacts are going to be the most compelling, as they tend to be most resilient during a downturn,” emphasises Cannon. “Sectors of interest include business products and services, green energy, infrastructure, and healthcare.”
One area that is attracting particular attention is renewable energy. “Europe has long been focused on green initiatives,” notes Cannon. “But the war in Ukraine has made the challenge much more acute, and it will accelerate efforts to find solutions to mitigate reliance on Russian oil and gas. That’s not a short-term fix. There’s a real focus on renewables and green energy transition is a meaningful piece of the investment thesis for many PE firms.”
the UK and Ireland remains a firm favourite with US investors
Turning to appealing geographies, the UK and Ireland remains a firm favourite with US investors, despite the political turbulence witnessed in the UK in the latter part of Q3. This culminated in a meltdown (albeit short-lived) in the UK bond market. What effect has this had on investor confidence? “I would venture to guess that it is not going to be a long-term impediment to doing business in the UK, particularly with US sponsors,” Cannon says. “A similar regulatory environment and common language means the UK is likely to be the preferred geography for US PE firms to transact.”
Funds are increasingly willing to over-equitise to get deals done for high-quality assets
As financing becomes tougher, investors are inevitably adapting their tactics. One notable trend is a greater reliance on the use of equity in transactions. “Funds are increasingly willing to over-equitise to get deals done for high-quality assets,” notes Cannon.
Minority stakes are another trend to watch. “We may see more activity in non-control investments by PE firms where they come into existing deals without upsetting the capital structure,” says Cannon. “This will give existing owners an ability to monetise their position and get a mark on their deals.”
Overarching all of this is the thorny question of price expectations. “There will need to be a calibration of expectations between buyers and sellers in order for dealmaking to remain robust,” Cannon says. “Buyers have calibrated their expectations – now it’s the sellers who potentially need to come in line.”
Headwinds aside, an abundance of high-quality targets in sectors such as business services, technology, and healthcare means Europe is likely to remain an attractive destination for US investors. “Sponsors are certainly open for business, and they are creative. Therefore, I think we will continue to see an active market,” concludes Cannon.