The 2023 private equity (PE) landscape could be a rocky one, judging by expected turbulent economic times, with fewer investments and realizations. The large private capital pool of about $1.24 trillion globally will likely result in increased investments in 2023 and beyond. The PE industry will require various strategies including expense reduction and revenue increase, social responsibility, compliance, and access to high-caliber professionals to leverage expected opportunities.
Here are the trends and compliance issues to expect in 2023.
Overview of the Private Equity Landscape for 2023
Many 2022 trends will continue to impact the private equity landscape in 2023 and beyond. Here are the top expected trends.
- The High Capital Pool Could Encourage Deployment Private equity dry powder is at an all-time high, approximately $700 billion in the US. The pool could take about 3 years to reach depletion. With about 63% of these funds raised in 2020, the pool is still within the 3-5 year deployment period —- great news if you’re seeking investments.
- Economic and Political Conditions May Slow Investment and Realization Weak economic growth, difficult political environments, and tight credit markets could result in the slowdown of investment and realization activities. Lower transaction activity could favor buyers while investors will have longer holds and fewer distributions.
- There’ll Be a Greater Need to Reduce Risk Through Managing Expenses and Monitoring Sales The expected recession will see general partners (GPs) employ strategies to manage expenses and monitor sales. This begs for guidance from professional accountants or controllers.
- Add-Ons Will Continue to Be a Key Acquisition Type The increase in dry powder is likely to trigger add-ons as the key type of acquisition. In the middle market, leveraged buyouts (LBOs) may also be high.
- Environmental, Social, and Governance (ESG) Showcasing your company’s ESG efforts affects funding, due to the significant role of ESG to improve business. A London Business School research paper by Florin Vasvari, Jefferson Abraham, and Marcel Olbert found that researchers have found that ESG disclosure increased the net internal rate of return (IRR) of a fund by 4.9%.
- High-Quality Talent in Demand Funds need qualified talent to achieve the best results. Talent can break or make your investment. High-quality talent is becoming difficult to attract and retain in the current shifting market. Over 60% of private equity firms reported difficulties in recruiting millennials and GenZs while over 80% struggle to retain these employees. Large-scale resignations and preference for remote work are just some of the issues causing talent acquisition challenges.
Potential 2023 Deal Flow: Popular Industries and Sectors Likely to See Active PE Activities
The high level of dry powder will affect which deals PE firms choose and how they do them. PE firms are also expected to use minority deals, all-equity deals, and private placements to support continued capital deployment.
Popular industries for PE investors will be those that provide security while having huge growth opportunities. Some of the most sought-after industries will be:
- Public-to-private deals – Private equity companies are eyeing opportunities in public markets as companies seek discounted trade prices. Investment amounts on take-out deals by PE firms in 2022 amounted to $116 million according to a report by Preqin. The figure is expected to increase in 2023 and beyond.
- Fintech – Financial technology has been an exciting area for PE funding over the years. Experts suggest that fintech will continue to rise for more fintech in maturing sub-sectors that are rolling out solutions to accepted market trends rather than high-risk startups.
- Energy & utilities – With increasing concerns about the rising cost of utilities and energy, startups with innovations around reducing carbon emissions will be in high demand. Reports already indicate that over one-quarter of all venture capital (VC) funding goes to climate technology with a focus on emission-reducing technology.
Potential Compliance-Related Issues PE Firms Need to Bear in Mind in 2023
PE firms are increasingly facing high scrutiny and regulatory pressure as the U.S. Securities and Exchange Commission (SEC) implemented new rules in 2022. The latest regulations revolve around increasing transparency and investor protection.
Here are 3 areas that SEC will scrutinize in 2023:
1. Disclosure of costs when marketing funds to potential investors
In the past, PE firms could market funds without deducting costs and expenses. New SEC rules require disclosure of such costs. Employing placement agents can be a way to stay up to date with compliance requirements and ensure smooth compliance. At the time of marketing, placement agents must amend existing contracts and placement agreements to include relevant disclosures.
2. Monitoring electronic communication
Electronic messaging is a compliance concern as new SEC rules emerge.
Various firms including KKR, Carlyle Group, and Apollo Global Management have faced SEC scrutiny over the use of messaging apps such as Telegram and WhatsApp for communication.
These apps may compromise record-keeping as they have features that allow automatically erasing of messages. You need to oversee communication regulations on third-party platforms to ensure compliance and smooth investigations during crackdowns.
3. Outsourcing managers
Due diligence requirements for investment advisors are on the high. A proposed SEC outsourcing rule requires you to conduct background checks and periodic performance monitoring for outsourced functions that are necessary to provide investment advisory services. Having more retail investors rather than a few large investors can increase your due diligence burden.
The Best Talent Equals Growth of Your Private Equity Firm in 2023
2023 will be a challenging year for PE firms as they seek to thrive under current market disruptions. The current tough economic times and a possible recession will require you to manage expenses and monitor sales for higher profitability. The year will also be exciting and opportunity-filled thanks to the high capital base available. Add-ons, for instance, are expected to be a part of most PE firms’ growth strategy. Focus on strategies such as ESG and add-ons will also help your company create value.
Acquiring qualified talent will also be critical to long-term success. You need the backing of high-caliber PE professionals including:
- Analysts and Associates An associate lead the entire deal process while analysts perform a supporting role. They execute your deals from start to finish. The best professionals will ensure superior deal execution, monitor portfolio companies, and generate and screen new deals.
- Senior Associates Senior associates manage deals to some level. They also have high-level soft skills to negotiate with investors and ensure deals don’t fall through.
- Vice President (VP) Level Professionals VP professionals will lead and mentor junior team members, work more directly with clients, vet transactions, and spearhead due diligence and negotiations. The best VP professionals have excellent people skills to help close deals.
- Directors and Principals These are partners in training. They assist in critical negotiations of near-finish-line deals and also help in sourcing deals and fundraising. Principals can convince business owners to sell.
- Fund Accountants, Assistant Controllers, and Controllers These professionals keep and analyze your financial records. They can help you identify opportunities to increase sales and lower expenses.
Vitalis Consulting can help you beat the challenges of attracting high-value talent. We are employment professionals with years of experience in helping PE firms find valuable employees. Contact us today to find high-quality talent for your company.