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Ordinary Investors Can Get On Board The Cashbox Bandwagon
WHEN Just Group, the clothing retailer, was sold into the private equity group Catalyst Investment Management in 2000, its $127 million price tag caused something of a stir. Today Just Group, a celebrity in the retailing trade, is re-installed on the stock market at a capitalisation of $750 million, its share price doubling in 18 months.
The past two or three years have seen handfuls of companies go through a similar reincarnation at the hands of private equity managers, to emerge as beautiful Cinderellas – well, at least while the music played.
This week the words private equity have popped up everywhere, on seemingly everything from the Packer and Stokes media empires to the local grocers, and maybe even that Australian icon, Qantas.
So if the big end of town is into private equity, does that make it a good thing for private investors?
Its best to look on private equity as a chase for better returns, cranked up with borrowed money. Returns on listed company shares typically range as high as 8 per cent, but returns in private equity investing can be twice as much – and thats very attractive to managers of superannuation funds always on the hunt for more diversity and better returns for our money.
Lately the flavour of the month has been leveraged buyouts, where private equity operators buy into a business using borrowings – think PBL and the equity firm CVC Asia Pacific, or Channel Seven and KKR – with a plan to build it and then sell out with a nice return for everyone.
Thats the essence of the recent media deals, but just a fraction of the private equity investing, which ranges from kick-starting small businesses into bigger ones (venture capital), to management buyouts (such as Flight Centre) and leveraged plays such as Rebel Sport. Given the power of their money, private equity managers have more control and influence and can call the shots in running the business.
Yet for all the flash and dash, it is not without risk. Big borrowings require big cash flows to service them, which explains why retailers such as Coles and advertising-laden newspapers are attractive to private equity investors. But a downturn in the markets, perhaps through interest rate hikes, can rapidly affect cash flows.
As Westpacs chief executive David Morgan said earlier this month, banks can be wary of lending to private equity operators.
Is it something for a small investor to be in? In a sense, you probably already are, through your super fund. Increasingly super funds are putting up to 5 per cent of their assets into private equity funds, in the search for higher returns and a wider spread. They are not much worried about one of the idiosyncracies of private equity investing: committed funds might not all be required on day one.
As LEK Consulting partner Nick Holder says, private equity is an alternative to mainstream investments for big institutions, which have large cash flows and bond investments to liquidate when funds might be needed.
Investors wanting to be part of the private equity world have opportunities and risks to match. Those with several millions to spare at a time might invest directly – though as Kerry Packer was known to say, in every 10 investments, seven will be dogs, two will be okay and one will shoot the lights out. Just make sure you pick the good one, if you can.
More risk-averse investors might buy into listed companies that in turn invest in a spread of assets, or buy into a managed fund that is invested in a fund-of-fund.
Risks are certainly there. Standard and Poors, in its latest asset allocation report, said investors should avoid the urge to diversify indiscriminately into private equity.
High fees are an issue. While private equity managers can add value, only a few of the best, largest, and hence most exclusive managers tend to prevail. As with any listed fund, most listed private equity funds in Australia trade at a discount to their net tangible assets – largely due to the absence of a potential takeover premium and conservative valuation of assets. For example, the listed Macquarie vehicle is trading at a discount of 23 per cent at 82c. Yet this double discount can reduce the investment risk and offer a degree of protection. And investors are also able to target funds with established portfolios that are closer to producing substantial returns.
Macquarie has two managed fund vehicles for investors in private equity, one listed – Macquarie Private Capital Group (ASX code MPG) – and another unlisted – the Macquarie Global Private Equity Securities Fund.
MPG invests in as many as 20 unlisted private equity managers, such as CHAMP, Quadrant, Catalyst, Carlyle and Blackstone, which are themselves invested in a range of styles from venture capital to business expansion. Retail investors needing liquidity can readily trade in and out of the shares.
Since inception 18 months ago, MPGs portfolio has delivered growth in net assets and franked dividends totalling 14 per cent pre-tax or 12.6 per cent after-tax.
The pooled vehicle – Macquarie Global Private Equity Securities Fund – is a managed fund that invests in as many as 100 listed companies that happen to be private equity funds. They range from the $12 billion 3i fund, to some that are very small, such as Dinamia, a Spanish buy-out fund that is listed in Madrid and has a market cap of E290 million ($484.55 million).
The fund offers daily unit pricing so investors can apply and redeem in the same way as other managed funds. During the six months or so from when MGPESF started investing in mid-April to the end of October, the fund has delivered a total return of 8.3 per cent, outperforming global equities by 3.7 per cent.
Macquarie and INGs similar fund, ING Private Equity Access Limited, offer a slice of the action from a diverse array of Australias best private equity managers. These include the manager CHAMP Private Equity, which itself harvested $557 million from an investment of $82 million in Austar.
At the riskiest – yet potentially most rewarding – end of the scale comes venture capital, where your funds help entrepreneurs commercialise intellectual property and businesses.
They have included classic success stories such as the latex glove, the airline black box recorder (that had to go to the US to find private capital), and Cochlears world-beating bionic ear implants.
Then theres the Resmed cure for breathing disturbances during sleep. It was backed by venture capital and now has 700 employees in Sydney.
A current success is Innovation Capital, which raised $36 million from 180 investors in 1999 and put $2.5 million behind Cap-XX Pty Ltd, which developed CSIRO-designed supercapacitors.
INGs Private Equity Access company (which raised $43 million) invested 75 per cent of its cash in the share market while a portfolio was being built, a strategy that has paid off in a strong market. Its share price hit $1 recently, up from 84c in June, and is providing a 6.5 per cent dividend yield.
It has investments in 11 private equity managers, including commitments to private equity groups such as Archer Capital, Pacific Equity Partners, Quadrant and Ironbridge Capital. Its underlying investments include Kathmandu (adventure clothing), Godfreys (appliance retailer), Paradise Food (biscuits), Qualcare (aged care facilities), Stardex (insurance underwriter) and Barbecues Galore (retail).
Sometimes one door can open, and another close, on funds available to retail investors.
The listed fund Colonial First State Private Capital has decided to quit private equity in favour of infrastructure investments, such as the Brisbane and Perth airports.
You do not get the cash flow with private equity, and the dividends are lumpy because they are only realised on sale of the assets, a Colonial spokesman said.
I also think retail investors are better off in unlisted funds.
Fund managers are better off hunting for assets under the radar, instead of in the full glare of the share market.
Macquarie Banks more sophisticated customers have an appetite for long-term growth provided by private equity funds, according to Macquarie Private Capital Group CEO Robert Credaro.
Because MPG has exposure to a wide range of funds, we are likely to generate a steadier cash flow compared to a fund with only a few deals, he says.
The fund has also looked overseas for expansion in areas not readily available in Australia, such as distressed debt.
This involves buying companies in trouble for 20c in the dollar and providing equity to turn the company around and sell for a profit.
Going overseas has helped the funds $112 million to be invested quickly – it is now almost 90 per cent exposed to private equity and only has a small cash exposure.
Unemployed cash, sitting in the fund because there are no worthwhile opportunities to buy into, can depress the share price. Macquaries fund has gone from $1.04 to 83c in a year and is trading at a 22 per cent discount to its net asset value.
There are about 20 other private equity funds listed on the Australian Stock Exchange, though they are known as closed funds, having raised their capital needs. The most recent to close was the Credit Suisse Global Private Equity Fund.
Given the rising interest in private equity investing, many more are sure to come. Watch for names such as Allco Equity, Babcock and Brown, Kaplan, Macquarie and Souls.
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