In late 2022, the private equity and lower middle market deal environment was challenging. Private equity deal activity, including on the venture capital side, has slowed significantly in 2022 due to a variety of factors such as rising interest rates, inflation, and the risk of a recession. Private equity controlling-stake M&A deal volume has fallen by 46% compared to the previous year.
One major factor impacting deal volume has been the difficulty in securing financing for leveraged buyouts, which were a key driver of overall private equity M&A volume in 2021. As a result, the volume of all private equity buyouts that have signed or closed in 2022 is over 25% behind the record total set in 2021, regardless of financing type. In addition, the total number of deals is over 30% behind the record number seen in 2021.
Exit routes for private equity have also become more challenging, with lower valuations, higher interest rates, and higher volatility making the IPO option less attractive. This has led to a shift in exit strategies towards more secondary transaction exits, in which a private equity firm buys out the portfolio company of another private equity firm.
Despite the overall slowdown in activity, some top private equity buyers such as Thoma Bravo and Bain Capital Private Equity did similar total acquisition counts in 2021 and 2022. However, others such as Blackstone and KKR Group have engaged in fewer acquisitions than they made in 2021.
Private equity firms still have a significant amount of unused funds, or “dry powder,” available to invest – over $1 trillion as of the end of 2022. This capital is expected to be deployed, with private equity firms using cash or selling portfolio companies to fund new acquisitions when traditional financing is not available.
Overall, the private equity market is expected to continue to be driven by the search for yield and the desire to deploy capital. Niche sectors such as healthcare and technology are expected to see strong interest from private equity firms, as are companies with strong, recurring revenue streams and limited cyclicality.
Due diligence is also expected to take on increased importance in a volatile market, with buyers taking more time to carefully assess potential investments. This emphasizes the importance of operational excellence and execution for sellers.
In summary, while the private equity and lower middle market deal environment in late 2022 was challenging, private equity firms are expected to adapt and find opportunities to deploy their capital, particularly in niche sectors and companies with strong financial characteristics.