The provision of significant investor capital has recently resulted in record fundraising. As of April 2021 of this year, GPs had raised around $ 50 billion for 58 funds focused on Europe, up from the $ 18.5 billion raised during the same period in 2020, according to Preqin.

However, quantitative performance in recent years has been fairly consistent across funds, for example, McKinsey’s 2020 Private Markets Report found similar median returns for all fund sizes. Investors are therefore increasingly turning to funds to differentiate themselves in other ways and to seek capital.

In addition, many sponsors have targeted specific sectors – real estate, technology, healthcare, financial services, infrastructure, energy – or strategies – credit, special situations, growth or ESG – alongside their traditional buyout funds to maximize return. and attract the investment community. .

New market entrants are also increasingly focusing on the sector or strategy and even traditional investors such as pension funds and sovereign wealth funds are adding specialization and looking at direct investment strategies from there. .

The fierce competition for assets has resulted in higher prices at relatively high multiples compared to historical investment markets. Valuations have defied the pandemic. The average deal in Europe in 2020 closed at a record 12.6 times the company’s value compared to the multiple of EBITDA – the highest on record, according to Bain.

These awards are potentially tight returns for generalized buyout fund sponsors positioned as “capital provider and strategic partner”. Conversely, specialized fund managers can achieve higher returns even at higher prices if they are able to apply the specialized know-how in such a way as to achieve better results. Or they could find alternative targets at a lower price but with higher barriers to entry, which could deter other more traditional buyout sponsors, such as heavily regulated industries such as insurance.

In many cases, sponsors with relevant industry expertise set market conditions as they are able to leverage their network, attract top talent, create strong and informed value creation models, better position themselves with regulators where appropriate and are better placed to filter transactions. Markets are adapting as sales processes increasingly target specialist funds and adopt direct approaches that increase the volume and quality of transactions to these sponsors.

Private equity has shown resilience in the face of a challenging environment over the past year. In addition to pricing factors, a team with industry strength can benefit from the ability to have greater operational involvement in the underlying companies, identify and seek out-of-market development opportunities, and provide insight. credible and more thorough to management.

At the same time, the sector approach has also generated a wider range of investment opportunities across the capital structure, such as non-controlling interests and growth capital, direct loans and hybrid debt / instruments. equity, often under the same sponsor platform. umbrella.

The question remains whether mid-market funds without sector specialization will seek to develop one or more and will be able to meet the associated challenges. These companies are already facing a challenge from large asset managers with extensive industry expertise across their portfolios and better access to available capital. In addition, mid-market funds will need to compete with newer funds, which tend to focus on one sector or other specialist area, as evidenced by the significantly greater growth in assets under alternative strategies compared to traditional redemption. , as well as traditional non-private funds. equity investors in relevant asset classes with deep industry knowledge, connections and increased appetite for acquisitions over the past few years.

Valuations are expected to remain high as huge amounts of capital seek fewer opportunities. Sponsors will probably have to continue to look for alternatives to make this capital work. Such alternatives are therefore rapidly becoming, and probably already are, the status quo.

Thomas Thesing and Fatema Orjela are London-based partners of US law firm Sidley Austin.