In recent years, the spike in assets for the private equity industry has caused a boom in buyout activity throughout the world. Buyouts are everywhere, from the United States to Australia.
The theory behind the private equity strategy is that a company can be run more successfully under a well-trained private management team than it can be run as a publicly traded company. People argue that because the company is private, the management team has more room to make change because it doesn't need the consent of shareholders.
While this argue is rational, many people seem to forget that the private equity firms don't want to hold a company forever -- they want to sell the company back to the public as a theoretically better company and cash out. As a result of the recent super-spike in buying activity in the U.S. markets, one could rather easily see way too much I.P.O. activity several years from now, when the funds want to take the companies back to the public market.
The NY Times recently covered the scenario of excess I.P.O. supply hitting the market in a couple of years. Interestingly, the article pointed to two potential solutions:
- Private equity firms could sell their portfolio companies to companies in the same industry
- Private equity firms could sell their portfolio companies to other buyout firms ("second buyout")
- Private equity firms can break up the company into smaller, more focused companies
The last idea also has its benefits. Because of the smaller size of the newly formed companies, they are usually easier to sell in the private market. This strategy at work is displayed in Blackstone's purchase of Sam Zell's Equity Office Properties. Blackstone quickly shed significant assets after the purchase which allowed the fund to quickly earn back much of its expenditures in purchasing the company.
While there are many options, I believe private equity firms are probably going to try and stick to IPOs simply because they are the easiest way to shed their portfolio companies at competitive prices. However, if the U.S. does go into a recession or the stock market softens significantly, PE firms are going to have a huge burden on their hands. As the article stated, if too many of these funds try to go the IPO route there will be tremendous oversupply in the I.P.O. market, which will cause softer prices all around.
