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‘Bringing home the bacon' Exits for managers and investors

A thorough exploration of exit potential is crucial to every investment made by a private equity fund. But investors often pay insufficient attention to the credential of fund managers in this area, according to Andrew Rothery of GS Private Equity. This report provides a step-by-step guide to private equity exits and their implications at both fund and portfolio company level.

EXECUTIVE SUMMARY

“Exit” is the term frequently applied to describe the transaction by which an investment is realised.  The ‘sell' side of the investment function is just as important, if not more important, than the ‘buy' side.  Exits fall to be considered at both the level of investments by the fund and the level of investments in the fund.

Exits at the Level of Investments by the Fund

At the level of investments by the fund an exit takes one of four forms:

· trade sale
· IPO
· recapitalisation
· liquidation.

Experienced private equity fund managers will give much thought to exit prospects before an investment is made.  Once an investment is made, exit planning should start straight away.  The shareholders and board of an investee company will lead the exit planning while endeavouring not to distract management of the investee from its primary function of managing the company. 

Flexibility on the part of the manager is critical given that investee performance issues and economic cycles can impact exit planning and processes adversely.  Managers should also avail themselves of some tried and proven mechanisms that assist in securing exits, eg, ‘drag along' rights in shareholder agreements.

The exit process itself revolves around getting the investee company ‘exit ready' and managing the process so as to maximise competitive tension.

Exit at the Level of Investments in the Fund

At the level of investments in the fund exit involves either the fund concerned running its course and distributing investment exit proceeds along the way or an early sale of the investor's ownership interest in the fund. There can be legitimate reasons why an investor might want to exit early, eg, poor fund performance or the investor's own liquidity requirements. Nonetheless, investors need to recognise that private equity funds are not structured to cater for early exits.  Illiquidity at the level of investments by the fund requires illiquidity at the level of investments in the fund.

Having said that, managers can be expected to do what they can to help investors who need or want ‘out'.  The emergence of private equity funds that specialise in acquiring existing fund ownership interests will help both investors and managers in this regard.
 

INTRODUCTION

Private capital fund managers receive commitments of cash from investors and are usually expected to hand cash back to their investors.  Accordingly, a critical part of private capital investing involves the realisation of investments.  If all goes according to plan at the level of investments by the fund, the investors in the fund will get their cash back, plus some (hopefully, plus much).  But circumstances can militate against the ‘plan' and investors in the fund can sometimes be in need of another form of exit.  This paper discusses the matter of exits at both the fund investment and the fund investor level.

My focus will be on the issues as manifested in the context of a private equity fund as opposed to a private debt fund.  The issues are essentially the same for the two types of fund, perhaps just more pointed in the case of a private equity fund.

WHAT IS AN EXIT?

An exit is simply the realisation of an investment, usually for cash.  A partial exit is just that: the partial realisation of an investment.

It is possible that the consideration received on the realisation of an investment is something other than cash, for example, securities in a listed company.  In that case the need to secure an exit presents itself a second time in the form of the need to sell the listed securities to generate cash.

FORMS OF EXIT AT THE LEVEL OF INVESTMENTS BY THE FUND

At the level of investments by the fund an exit involves the realisation of securities in an investee company.  The exit is a critical part of the private equity investing business system.  At its simplest, that business system can be depicted as follows:

Clearly, the exit can make or break an investment.  Until such time as the investment is realised, the value of the investment is nothing more than theoretical.  Employing the most sophisticated investment valuation methodology is no guarantee that the returns on the investment forecast or otherwise expected will be realised.  And therein lies one of the most important differences between public and private market investments.  In the case of public market investments there is, per se, a market price that, subject to liquidity considerations, provides at least one valuation of the investment in question, ie, the value that can be realised on a sale today.  In the case of private market investments the illiquidity of the investments often rears its ugly head in the form of the uncertainty around what price will be achieved on the day.  That uncertainty can be minimised, but rarely can it be eliminated.  Many is the time that a private equity fund manager has gone into an exit process with a high level of confidence around what price will be realised only to be disappointed or pleasantly surprised at the outcome.

Given the business system of private equity investing depicted above private equity funds are structured on the basis of two phases: the investing phase and the managing/exiting phase.  The typical ten year fund has a five year investing phase.  Drawdowns of capital for new investments usually cannot be made after the fifth year.  The second five years are notionally devoted to managing and exiting investments.  Of course, there is no bar on an investment made early in the life of a fund being realised within the term of the investing phase.

At the level of investments by the fund there are four forms of exit:

· trade sale
· initial public offering (“IPO”)
· recapitalisation
· liquidation/write off.

The trade sale is simply the outright sale of the investee company to a third party, usually for cash but sometimes for some other marketable securities. 

The IPO, or flotation, involves the admission of the company to the ASX so that its securities become traded publicly (ie, so that it enters the realm of public markets).

The recapitalisation of an investee company usually involves the re-leveraging (ie, increasing the borrowings) of the company so that cash can be returned to the shareholders by way of dividend and/or return of capital.  A company might be recapitalised more than once during the life of the private equity fund in which it resides.  Recapitalisation tends only to be an exit option in the case of investments in relatively mature businesses with low levels of operational risk.  It is rarely an exit option in the case of early stage investments many of which are unable to support any meaningful level of debt.

The least pleasant form of exit is the liquidation or write off.  The process might see some cash coming back to the fund, but rarely does a liquidation involve anything other than a substantial or total loss of capital invested.

Occasionally a deal will involve the investee company paying a stream of dividends.  However, with their limited lives and the usual expectation that investors get cash (not scrip) back, private equity funds eventually have to sell the shares in the investee company.

THE EXIT FUNCTION AT THE LEVEL OF INVESTMENTS BY THE FUND

This section of the paper looks at what's involved in the exit function at the level of investments by the fund.  The assumption here is that the investment is a successful one and is not about to be written off.
Exit Options

There is an adage in private equity investing that you need to know “how you are going to get out before you get in”.  The unexpressed assumption here is that you have a crystal ball that actually works.  Perhaps a more practical version of this adage is that you need to be sure that you have real exit options before you make the investment.  This is a critical issue for private equity fund managers operating in Australia because of the thinness of the Australian market for corporate control.  Unlike the USA and UK, we simply don't have the depth and width in our audiences of potential local buyers of companies, nor do we have the depth of public markets which exists in those countries which facilitates IPOs in all but the most adverse of stockmarket conditions.  This thinness has ‘caught unawares' some managers from overseas who have made investments in Australia.

So how does a manager determine if viable exit options exist?  Desktop research is a good start.  A manager contemplating an investment should research competitors and talk to underwriters to understand the prospects of a trade sale and/or IPO at some time in the future.  Read the brokers' reports; get a feel for the acquisition appetite of competitors, customers, suppliers and underwriters.  If the opportunity to make the investment arises via a competitive offering of the company concerned the list of competitors in that process provides more food for thinking about likely future buyers.  Similarly, if the owners of the company concerned investigated an IPO of the company the results of that investigation will also provide some clues about the appeal of the company to public investors.  If you can, consult with the managers of the company concerned.  They should have some insights into who has been interested in the company in the past, who is interested at present and who might be interested in the future.

Private equity fund managers focusing on large leveraged acquisitions (MBOs and MBIs) and large expansion capital deals often have an easier time of exits insofar as they usually have more exit options simply by virtue of the maturity and size of their investee companies.  Big companies with track records are usually more readily sold, listed or recapitalised.  There is a practical minimum size of a company which can be listed successfully which is in excess of the ASX-prescribed minimum.  A listed company with an equity capitalisation much below $100 million will rarely attract the attention of stockbroking analysts whose research is critical if there is to be an active secondary market in a stock. The flip side of this is the illiquidity of the market for small companies.  There often aren't as many buyers for small companies and an IPO is generally not an option for a small company unless there is a particular appetite for the industry or stock in question.  The recent and short-lived burst of interest in ‘tech stocks' is a case in point.  With public markets having turned against IPOs of technology companies, especially ‘dot coms', the VC funds with investments in such companies have very few exit options.  Moreover, there is a tendency to apply lower earnings multiples in the valuations of small companies compared to large companies.  This, too, can impact adversely the chances of a successful exit from a small company.

If a manager is comfortable with the exit prospects and the investment is made, where to next? 

The Exit Planning Process

Once the investment is made, exit planning should be an ongoing, explicit consideration for shareholders, the board of the investee company and the top management team.  At its simplest exit planning involves a statement of exit options and a description of the timing of the steps involved in securing those options.

Clearly, the new shareholder(s), as represented by the private equity fund manager(s), will have given thought to the exit options and how they can be exercised.  They can be expected to lead, or at least initiate, the exit planning process for an investee company.  When the investee is ‘exit ready' they will usually work with the board in managing the exit process.

The board of the investee will also have a key role in exit planning.  As the forum which provides an interface between the shareholders and the top management team, the board meeting allows shareholders and management to exchange ideas relating to exit options and how best to secure them.  Managers will make their lives immeasurably easier if they ensure that the non-executive directors who are appointed to investee company boards understand and accept the imperative of the exit.

Last but not least, the top management team is an important contributor to the exit planning process.  As already noted, the managers of the investee company will often have insights into likely buyers and what those buyers find attractive in the investee.

While exit planning should be an explicit process, it must not distract management or, at times, the board, from the basic tasks of managing and governing the company concerned any more than absolutely necessary.  The processes for the sale or IPO of a company are enormously distracting for management.  They should not be embarked on until the company is truly exit ready.  Accordingly, while exit planning should be a standing agenda item for the shareholders of the investee, the board should only involve itself formally in exit planning when the investee is approaching exit readiness or when an attractive unsolicited offer for the company has been received.  And top management should only spend time on exit matters when so instructed by the board.

Having said that, a good private equity manager should ensure that the board and top management team of an investee keep the exit in the back of their minds at all times.  Every major decision which management and the board faces should involve the consideration of ‘what will this decision mean for the exit prospects of the shareholders?'  Will this acquisition of this competitor make this company a more or less attractive acquisition candidate itself?  Will an expansion into this activity make the company a more attractive acquisition candidate because of complementarity with some competitors or because of cost-saving synergies with others?

The Importance of Flexibility

While an explicit exit plan (‘what, how and when?') is desirable, the private equity fund managers must also be flexible and opportunistic.  Unsolicited bids to buy or float companies do happen.  Windows of opportunity to sell or float can start to close sooner than expected.  And general economic and industry cycles can impact exit timing and valuations significantly in many cases.

The last point is worth elaboration.  While the managers of the Australian and many significant overseas economies seem to have done a great job in smoothing out economic cycles, those cycles still exist and can still impact exit timing and strategies in important ways.  For example, investments in cyclical companies such as building materials companies require managers to keep an eye on the impact of building and construction cycles on valuations and on the appetite of competitors to make acquisitions.  Traditionally such companies tend to be sold or listed during industry upturns.  Similarly, the general health of the domestic economy can influence exit timing enormously.  A healthy domestic economy should see investees generating good profits and cashflows and should see potential acquirers feeling more prosperous and able to fund acquisitions.  A poor domestic economy can impact the exit timing, particularly in the case of exits via IPOs.  IPO investors usually like to see the prospectus showing three or so years of steadily increasing revenues and profits.  A poor year for an investee can set an IPO back a year or more. 

Given this, the private equity fund manager needs to be nimble and ready to act quickly to either take advantage of or avoid the impact of economic and industry cycles.

Mechanisms Facilitating Exits

The most powerful mechanism for facilitating an exit is a controlling stake in the hands of the private equity fund manager (or a group of like minded private equity fund managers).  Other contractual arrangements aside, control of the share register provides control of the board.  Again, other contractual arrangements aside, control of the board allows the private equity fund manager to control the exit process.

A lack of a controlling stake is not necessarily a bar to control over the exit process.  A company that has been the recipient of a substantial amount of private equity will undoubtedly have a shareholder agreement in place.  Depending on the bargaining power of the manager, a condition of the private equity investment will have been the inclusion in the shareholder agreement of some or all of the following:

· an expression of intent that an exit is to be secured at the earliest appropriate opportunity;
· a right on the part of the manager(s) to offer the company for sale (perhaps after a specified period of time following the making of the investment, eg, two years);
· ‘drag along' rights.  These usually take the form of call options over the shares of the other shareholders.  They allow the manager to deliver 100% of the company thereby capturing a control premium in the sale price;
· ‘tag along' rights.  These usually take the form of put options in the hands of minority shareholders.  If a large shareholding in the company is proposed to be sold the ‘tag along' rights allow the minority shareholders to put their shares with the selling shareholder so that they can participate in the selling opportunity on the same terms;
· powers of attorney which, say, appoint members of the board as the attorney of shareholders for the purpose of executing documents relating to the exit.  (The legal efficacy of such powers is not without doubt.); and
· financial incentives for managers which depend on a successful exit.

Mechanisms to extend the term of a private equity fund can also play a role in helping to achieve a successful exit.  While the traditional ten year term for private equity funds usually provides ample time to ride out patches of poor performance and industry and general economic cycles, it is useful to have the ability to extend the term of the fund.  Prospective buyers of an investee company will sometimes perceive the manager to have its ‘back to the wall' as the termination date of the fund approaches and exits remain to be completed.  And sometimes the manager itself will feel the pressure in this regard.  An ability on the part of the manager to extend the term of the fund will help dispel that mindset on the part of buyers and reduce the pressure felt by the manager. 

The Exit Process

Private equity fund managers typically manage the exit process for an investee.  Assuming the appropriate planning has been done, the next step usually involves getting the business ‘exit ready'.  The exit plan will have nominated a likely time for exit.  When that time approaches, or is thrust upon the company, the company needs to be prepared.  In this section of the paper the focus will be on exits via trade sale and IPO. 

Getting an investee company exit ready involves, first, getting the commitment of the shareholders, board and top management team to the exit process.  While shareholder agreement mechanisms can circumvent lack of commitment in some cases, the process will be harder if all the key constituents aren't on board.  This is an instance in which some of the softer, people management and persuasion skills of private equity fund managers come into play.  The prospect of a good financial outcome might not be enough to get everyone committed to the exit process.  An exit represents huge change and change can be uncomfortable for board members and management alike.  For example, in an exit from a management buyout, the incentive of a big cheque in return for their shares is sometimes not enough to convince the company managers of the merits of a sale to a competitor if the prospect of redundancies exists. 

Second, exit readiness involves some (legitimate) cosmetic work to ensure that the company concerned is looking its best.  Clearly, good trading performance is an important aid here.  But it can sometimes also be important to defer decisions which might make the company a less attractive acquisition target and/or impact the sale price adversely.  For example, capital expenditure decisions need to be scrutinised closely when an exit looms.  (Will the existing shareholders benefit from that expenditure being incurred now?)  Compliance audits around corporate housekeeping and trade practices matters are useful at this time. In short, you need to get the company's house in order before prospective buyers are invited inside to inspect it.

Once the company is in a state of investment readiness the exit process needs to be structured to generate as much competitive tension between prospective buyers as possible.  (In this context the term ‘buyers' applies equally to trade buyers and IPO sponsors/underwriters alike.)  Maximum competitive tension is the single most important ingredient of a successful exit process.  The traditional means of generating competitive tension is to offer a business for sale via a competitive auction.  (The parallels with a house auction are numerous.)  The auction typically involves the controlling shareholder(s) or their representative (usually an investment bank) contacting all the likely and qualified buyers of the company for the purpose of informing them of the impending sale and of determining their interest in buying the company.  Following execution of confidentiality agreements, some high level information (in the form of a ‘teaser') is provided to the prospective buyers who have registered interest for the purpose of eliciting their indicative bids for the company.  Based on those indicative bids a short list of buyers is formed, and those buyers are then able to perform detailed due diligence investigations into the company concerned.  A month or more is typically devoted to this stage of the exit process.  At the end of this stage the short listed buyers are required to provide final (and preferably binding) bids for the company with completion of the sale as soon as possible thereafter.  The key to maximising the selling price is to convince the prospective buyers, especially the short-listed buyers, that there is keen competition for the company.  Not only will this ensure that prospective buyers put their best foot forward but, in a well run exit process, it will likely also ensure that the other terms of the sale are as attractive as possible from the vendor's perspective.

The same principle applies in the case of an exit via IPO.  Yet, time and time again one sees examples of vendors who fall prey to the stockbroker ‘bear hug'.  A decision is taken far too early in the process to work with a particular broker and, over time, a commitment to that broker develops which means that the vendor (ie, the private equity fund manager) becomes ‘locked into' that broker.  Not surprisingly, the broker in that situation feels able to screw the offer price down without any legitimate justification.  For the same reasons that a vendor in a trade sale would be ill-advised to commit to a particular buyer early on, the better approach in the context of an IPO is to keep as many brokers in the process for as long as possible and to delay the selection of the preferred broker until the last possible moment.

This advice applies regardless of whether you are heading down the traditional underwritten offer path or the book build path.  Experienced managers and their legal and investment banking advisers can do a significant amount of the work involved in preparing for an IPO.  In the case of the traditional underwritten offering, they should present a line-up of prospective underwriters with all the due diligence material they might reasonably require together with an advanced draft of the prospectus and a ‘final draft' of the underwriting agreement.  All that will remain to be done is to have the underwriters who have presented appropriate credentials to fill in the price at which they will underwrite the offering and execute the underwriting agreement.  Similarly, while the book build approach to an IPO is gaining in favour it is still important to do all that one can to ensure that the starting prices in the process have as much support as possible and that the selected broker has as little opportunity as possible to lower the vendor's price expectations.

An investment banking adviser with substantial experience in this regard has provided the data in Attachment 1 to this paper which shows the disparity in underwritten offer prices which can emerge from a well run process.  Needless to say, without the competitive tension in the process, a vendor will always run the risk of ending up with an unnecessarily low price.

There are three other considerations worthy of mention. 

· First, while it is generally preferable to have as much competitive tension in the exit process as possible there are circumstances in which it can be beneficial to provide a prospective buyer with some degree of exclusivity in the exit process.  (By exclusivity is meant an arrangement in which the vendor shareholder(s) deal with one prospective buyer exclusively.)  For example, there are some buyers who simply will not participate in a competitive auction.  If such a buyer is to be afforded a degree of exclusivity, the vendor must do what it can to extract some form of consideration for the exclusivity and/or convince the buyer that there will be a cost to the buyer if it doesn't buy the company at the best possible price.  For example, the vendor needs to make the buyer think that, if it doesn't put its best foot forward, it will be forever denied an opportunity to buy the company and/or the company will likely be sold to a competitor of the buyer. 

· Second, it is increasingly common for the management of the company being sold to be provided with some form of financial incentive to assist in bringing about a successful conclusion to the exit process.  In the case of companies which have been the subject of a management buyout or management buyin there should be an in-built financial incentive in the form of the top managers' shareholdings.  However, this is not always the case.  Annoyingly, it might be necessary for the vendor shareholder(s) to sweeten the pot for management further.

· Third, in the case of an IPO, there can be some reasons why it might not be sensible or possible to screw the absolute last cent out of the offer price.  IPOs are meant to be priced on the basis that the issue price is the traditional 25% - 30% below some assessed fair value.  The aim is to provide the subscribers under the prospectus with the ability to generate some immediate return on their investment while providing secondary market buyers with a pricing margin that will attract them to the stock, thereby generating the desired liquidity.  If the manager hasn't been able to sell all of its shares under the IPO it will want to see the issue structured and priced to produce some reasonable appreciation in the value of its retained shares so that they can be sold down in an orderly fashion without doing too much damage to the share price.  Moreover, the directors of the company concerned will usually not want to see the IPO priced too finely.  They, too, will want to see a steady appreciation in the share price as the secondary market develops and, as the people who will be required to sign the prospectus for the IPO, they often have some leverage when it comes to pricing.

Distribution of Exit Proceeds

The constituent documents of private equity funds usually provide that, once an exit from an investment by the fund has been completed, the exit proceeds are distributed promptly to the fund investors.  In other words, there is usually no reinvestment of fund capital.  However, it is also usual for the private equity fund manager to be able to deduct from the exit proceeds some amount which might be necessary for future fee paying and expense reimbursement requirements.  The better managers obviously try to minimise such deductions.

The flow of consideration into a fund following an exit can be staggered.  Buyers sometimes successfully negotiate a retention of some part of the purchase consideration as security for the vendor's contingent warranty liabilities or as part of an ‘earn out' arrangement.  An earn out sees some part of the purchase consideration paid on the basis of the company meeting agreed performance benchmarks in the year or two following the sale.

IMPLICATIONS FOR FUND INVESTORS

Clearly, investors contemplating an investment with a new manager need to review the exit strategies and track record of that manager.  Specifically questions such as these should be asked:

· What has the manager said about exits in its offering document? 
· Does the manager recognise the importance of exits?
· Will capital be reinvested?
· Will the stated investment policy of the manager make the task of exiting easier or harder?
· In past communications with investors has the manager reported on exit planning, activities and prospects and thereby shown an appreciation of the importance of exits?
· What is the manager's track record on exits?  Has it ‘left money on the table'?
· Does the manager take into account the tax profile of its investors when it structures exits?

EXIT AT THE LEVEL OF INVESTMENTS IN THE FUND

Again, we are talking about the realisation of an investment, but specifically we are talking about investments in a private equity fund rather than investments by the private equity fund.

Investments in private equity funds take the form of commitments of cash.  The cash is usually drawn down on a just-in-time basis as the fund makes its investments.  The ownership interest of the investor in the fund usually takes the form of units in a unit trust or units in a limited partnership.

FORMS OF EXIT AT THE LEVEL OF INVESTMENTS IN THE FUND

In essence there are two forms of exit:

· Accumulated distributions over the life of the fund as the fund's investments are realised and the fund generally runs its course through to its termination.  (Very rarely, funds are structured with the proceeds of investment exits being accumulated and paid out in one lump sum at the termination of the fund.)
· An early sale of the ownership interest in the fund.

THE EXIT FUNCTION AT THE LEVEL OF INVESTMENTS IN THE FUND

On the assumption that the investment in the fund isn't a complete write off, the usual course of action is for the investor to simply receive and bank the distributions of exit proceeds which are made along the way during the term of the fund.  As noted above, private equity funds are usually structured on the basis that capital is not reinvested.  The decision facing the investor in these circumstances is what to do with the cash returned.  That cash might have come back sooner or later than planned.  More sophisticated institutional investors will likely have a private equity program which will see the cash received paid into other funds to meet drawdown obligations in those other funds.

As mentioned at the outset, most managers, at least most Australian managers, recognise an obligation to return cash to investors.  Occasionally exits at the fund investment level take the form of distributions in specie of scrip to the fund investors.  This transfers the hold/exit decision to the investors and can also raise valuation issues, particularly in the context of calculations of the manager's carry (performance fee).  There is a growing tendency in the USA (where technology oriented VC funds often exit via distributions in specie of scrip at the time of an IPO) for institutional investors to only allow the carry to be paid out (in cash) on the basis of cash-on-cash internal rates of return.

While investments in private equity funds usually run their course there might be legitimate reasons why an investor needs or wants to exit its investment early.  These reasons can include:

· poor fund performance, actual or prospective;
· the investor's own liquidity requirements;
· a change in the manager's investment strategy thus altering the risk/return profile of the fund;
· the manager's inability to source satisfactory replacements for key staff who have left;
· an attractive offer has been made for the investor's ownership interest in the fund.

The constituent documents of private equity funds generally don't make it easy for an investor to exit early.  There is often no power to redeem ownership interests or, if there is such a power, the constraints and other terms around its use generally make redemption an unattractive exit option.  Ownership interests in private equity funds are almost never listed on public markets.  (In many respects a public listing would be self-defeating since one of the reasons for existence of private equity funds is that they avoid the ‘noise' associated with public markets and provide returns which are meant to compensate for the risks and illiquidity involved.)  And the manager will rarely to do anything to encourage any other form of secondary market.

All this is understandable since private equity fund managers want certainty around the commitments of capital to the fund.  After all, they are investing in illiquid assets themselves and they don't want the distractions associated with early exits by investors.  Nor for that matter do the other investors in the fund.  Hence the care which goes into ensuring that each investor in a private equity fund has the necessary wherewithal and a liquidity profile that is suited to the risk/return/liquidity profile of the fund.

Having said all that, if an investor needs or wants to exit early it should consult with the fund manager as soon as possible.  While, as noted above, early exits are not encouraged, it is not in the manager's interests, or in the interests of the other investors in the fund, to have an ‘unhappy' investor in the fund who ‘wants out'.  That investor can make life unpleasant for the manager.  The manager might have some ideas about how to help in this situation.  It might know of satisfied investors in the fund with an appetite for a bigger ownership interest or of investors looking to buy into the fund.  There is a precedent in Australia for a group of institutional investors in a fund to ‘stand in the market' to acquire the ownership interests of other investors ‘wanting out' in order to bring some stability to the investor register of the fund.  And while there aren't established secondary markets for ownership interests as such, there are investors who specialise in acquiring existing ownership interests, eg, Coller Capital of the UK.  These investors know that they can usually acquire such interests at discounts (sometimes quite steep) to net asset backing because of the illiquidity involved in private markets.  The emergence of such investors is a positive development for managers and investors alike.

CONCLUSION AND WRAP UP

It is trite to say that exits are a critical part of private equity investing at the level of the investments by a private equity fund.  Nonetheless, there is often insufficient attention given to the credentials of managers in the area of exits.  Prospective investors in private equity funds need to investigate whether the manager has the experience and skills to ensure that the cash investors commit to the fund comes back, as cash, in a timely fashion.

Investors also need to accept the illiquidity of private equity, at both the level of investments by the fund and the level of investments in the fund.  If the due diligence into the manager's credentials has been lacking and an investor finds itself in an under-performing fund, there is no escape hatch in the form of a quick and easy path to an early exit.

GS Private Equity is one of Australia's leading private equity investment houses with $295 million in funds under management and the longest track record of any leveraged buyout manager in Australia. For further information please visit www.gsprivateequity.com.au.

Andrew Rothery is a pioneer of the MBO market in Australia, an experienced company director, and a management consultant and lawyer by professional background.