Talking Heads – Curious about private equity?

Talking Heads with Damien Fournier and Lionel Gomez

Daniel Morris: Hello and welcome to the BNP Paribas Asset Management Talking Heads podcast. Every week, Talking Heads will bring you in-depth insights and analysis on the topics that really matter to investors. In this episode, we’ll be discussing private equity investing. I’m Daniel Morris, Chief Market Strategist, and I’m joined today by Damian Fournier and Lionel Gomez, Co-Heads of private equity. Welcome gentlemen, and thanks for joining me.

DM: Lionel, If I can start with you, private equity for a lot of people may be somewhat of an opaque concept. Can you explain for our listeners what private equity is and talk about the key benefits and risks?

LG: Private equity, also called PE, actually refers to equity investments in private companies, companies which are not listed on a public stock exchange. Private equity firms raise capital from investors such as insurance companies, pension funds, sovereign wealth funds and high net worth individuals. This capital is pooled into a fund, which is then used to acquire stakes in private companies. Private equity firms work closely with the management teams of their portfolio companies to drive growth, improve operations, and ultimately generate value. The goal is to exit the investment after a few years with a capital gain.

A private equity universe is actually quite broad and typically broken into four key segments. Each of them align with a different stage in the company’s life cycle. First, venture capital, which consists in investing in start-up companies with high growth potential. Second, growth equity, which entails investing in companies with a proven business model to support the expansion. Third, leveraged buyout or LBO, whereby the private equity fund invests in more mature companies with stable cash flows and finances part of the acquisition through debt. Fourth, turnaround or distress, which consists investing in companies facing financial difficulties with the aim of restoring their performance.

The private equity market has grown tremendously over the last years. Private equity assets under management went up from $2 trillion 10 years ago to $6 trillion at the end of 2023 and are expected to double to reach $12 trillion by the end of 2029.

Private equity investment is not without risk. Key challenges include: first, a risk of capital loss, either partial or total, Second, illiquidity, especially when compared to public markets and, third, a long-term investment horizon. That said, private equity also offers benefits, explaining the growing interest in the asset class over the last [few] years. First, a very large pool of investment opportunities. In Europe, for example, 95% of companies are private. Second, some diversification away from public markets. And,  last but not least, an attractive return potential.

DM: Thanks very much. That explains what private equity is as a concept. Lionel, can you talk to us about how investors can go about participating in private equity and in particular the idea of Co investment?

LG: Well, when making [a] primary investment, the investor can express his appetite to have access to co-investment opportunities. Why would the leading PE firm offer co-investment? Two main reasons:  the first one is because the investment in the target company may be too large for the lead fund and may require extra capital. {The} second reason: co-investments are highly attractive for investors and help strengthen long-term relationship with them. Damian will elaborate on that in a minute. Once the deal is made, co-investors rely on the expertise of the leading private equity firm to create value in the company and execute a successful exit.

DM: Damien, maybe I can turn to you for more insight into co-investment strategies. Can you talk about some of the key advantages of private equity co-investment strategies compared to a traditional private equity fund investment?

DF: The key advantages of a co-investment strategy really depend on the volume and the quality of the deal flow coming from primary fund activity. The more qualitative deals you see, the more selective you can be and the stronger your portfolio is likely to perform at the end. Now, assuming you have access to a strong enough deal flow, co-investment funds offer key benefits to investors.
First, diversification. You can gain exposure to companies from a wide range of sectors and geographies. Secondly, access to top transactions to cherry pick from the best opportunities. Thirdly, better economics with more attractive fees and carry than traditional private equity fund. And finally, faster deployment as capital is put to work more quickly.

DM: If we look at the landscape today, Damien, what are some of the sectors or themes that you currently see offering the most attractive co-investment opportunities and why?

DF: In the current environment with high rates, geopolitical tensions and markets moving fast, it’s hard to say that one specific sector clearly stands out. What matters right now is agility. You need to be able to move fast at the same time to select investments very carefully and to be able to adapt when things evolve. Even if things move very quickly, we have identified several strong themes driven by long-term mega trends.

First, healthcare. Clearly healthcare continues to offer interesting opportunities, notably because it’s driven by demographic megatrends like ageing of the population, increase in prevalence of chronic diseases. Secondly, we also like cybersecurity, fire safety, wealth preservation. And, of course, energy transition. Instead of targeting specific clean energy plays, we tend to look at companies that help others in the transition, for example, through services or advisory work.

DM: Thanks very much to both of you. If I could summarise some of the key points that you shared with us. You talked about the opportunity and the growth that you’ve seen in the private equity space, and estimates that the market’s going to reach $12 trillion by 2029. Some of the appeal of investing in private equity is that it gives you a wider opportunity set than you necessarily get in public equities, and it offers a greater degree of diversification. You highlighted that agility is key in the current environment and some of the themes that you’re looking at included healthcare and energy transition. Lionel, Damien, thank you very much for joining me.

Thanks, Daniel. It was a pleasure.

Thank you, Daniel.

DM: That’s it for this week’s episode of Talking Heads. If you would like more information about our capabilities in private equity, please do reach out to your BNP Paribas Asset Management contact or check out Viewpoint, our website for investment insights at viewpoint.bnpparibas-am.com. We recommend subscribing to Talking Heads on your favourite podcast channel such as YouTube or Spotify. If you like Talking Heads, please leave us a positive review and a nice rating. You’ve been listening to the BNP Paribas Asset Management Talking Heads podcast with me, Daniel Morris, and Lionel Gomez and Damien Fournier, Co-heads of private equity. Please do join me next week. Until then, take care.