Exit Strategies for Private Equity Firms

Private Equity in COVID-19: The Financial pandemic

The COVID-19 pandemic has hit the business world globally. Its drastic spreading and rising number of cases have a major negative impact on the operations of business firms.

This global crisis has affected small, medium, micro industries as well as the start-ups that are already facing a number of challenges. If we look at the last few months, we can see that investments have dipped significantly and such businesses are struggling to even sustain in the market due to lack of funds, cash liquidity and lesser sales.

Private Equity Firms

The uncertainties in the political and economical environment have put a halt in raising funds, for the start-ups in India. Since the declaration of the global pandemic, there is a significant decrease in venture capital investments and private equity in India.

It has been estimated that a major fall of 40 to 60% in the private equity firms and venture capital investments will be seen in the year 2020 due to the restrictions and nationwide lockdown imposed by the government amid COVID. Although in terms of volume such investment activities are likely to increase, this major dip in investments is because of the following reasons-

  1. The process of due diligence and negotiation done by the private equity firms and venture capitalists in India is time consuming and lengthy.
  2. The restrictions on travelling have made the in-person meetings and face to face interactions in the ongoing investment deals very difficult which is a major drawback.
  3. The pandemic has disrupted the demand growth and supply chain businesses, dropping down the revenue below the margins.
  4. The ongoing deals will now take much more time than usual due to restrictions.

However, amid and post this pandemic certain industries will continue to sustain and grow such as the technology, healthcare, e-commerce and pharmaceuticals and due to this reason, private equity firms and venture capitalists are now seeking the opportunities to invest in these long-term growth oriented companies.

But certain industries have been badly hit by the COVID pandemic and therefore the investors that have already invested in them or have made deals are trying to exit in order to reduce their losses and future uncertainties.

Here, we have discussed exit strategies that venture capitalists and private equity firms can use for incurring their losses.

Exit Strategies used by private equity firms:

Any private equity firms invest in a company with the core objective of making huge returns on their investments. In the world of equity financing, it is a common fact that private equity funds usually have a fix life span of about ten years.

The private equity firms and investors buy a company to sell it off at later stages. They buy to sell. Right at the time of acquisition of a company, an investor typically plans and strategizes the exit momentum.

Private equity firms acquire a business organization, controls its operations and increases the value of the company and then sell it off for larger margins of profits.

Exit strategies can be defined as a well-planned structure through which the investor after certain time period sells the ownership of the company. There are different strategies of exit for private equity firms and these usually keep changing as per the latest trends in the market. The most commonly used exit plans are as follows-

  1. Initial Public Offering (IPO):

It is one of the most commonly used exit strategies by the private equity firms. It is also known as listing or floatation as in this, the company lists its shares on the stock exchanges for the public to invest in them. However, the volatile nature of the stock market can affect the process as the investors can only exit when the shares will be sold and not before that.

  1. Dual-track procedure:

In this strategy, the private equity investor tests the investments in a public market while looking for a more suitable exit method. As the name, dual-track process suggests that the company files for its IPO prospectus while looking at other options to exit.

  1. Sale of company to another enterprise:

One of the safest methods to exit and recuperate their investments used by the venture capitalists and private equity firms is to sell the investee company to another company that is interested to purchase the entire company from the seller.

  1. Leveraged recapitalization:

In this method, the structure of capitalization of the company is changed thoroughly by replacing the equity with debt. It a strategy where the company is not sold but additional cash can be obtained. It used for buyback of shares or for paying larger dividends. It is a partial exit strategy and can prevent any hostile takeovers.

  1. Trade sale:

The private equity firms by using this strategy sell-off their shares to a third-party purchaser. Usually, such a sale transaction is done with a company operating in the same sector or market. It is beneficial as the revenue realization is done almost immediately unlike the IPO plan.

  1. Buyback of Shares by the Promoters:

Whenever the investors try to exit from an investment, the very first opportunity to buy back the shares held by private equity firms or venture capitalists is given to the promoters of the company. The shares are sold at its present market price. In case the promoters refuse to buy the shares, the investors use other alternatives for exiting.

  1. Secondary buy-out:

It shortens the life span of the private equity fund investments from what originally it was planned. Here the firm, sell-off the investment to other private equity firms or venture capital companies, ending the investment of the original investor or acquirer.

  1. Self-liquidation process:

When there is debt financing involved by the private equity firms or venture capitalist, the process of company winding-up becomes self-liquidating. The major amount of the invested funds is paid over a specified time period along with the realized interest amount.

  1. Liquidation of the company:

If a scenario arises where the investee company does not remain profitable or gives losses to the private equity firms then they can use the option of liquidating the company. They can recover their invested funds by having a settlement or negotiation with the owner of the company. If the negotiating process fails then the agreement is done between them through the means of winding up the company as per the court procedures.

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    Author: Anil Agrawal
    EZYBIZ India Consulting LLP, New Delhi. The firm is business and tax consultancy firm providing consultancy in Taxation, Regulatory, Transfer pricing, Valuation, Corporate funding and Business set up matters. He may be reached at 9899217778 or anil@ezybizindia.in.
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