Lecture 2 Flashcards
What are the three main points while finding a deal ?
- Where to look – Specialization vs Diversification
- Attracting vs finding deals
- Entrepreneur’s perspective
On what do early stage VC focus on ?
Areas undergoing structural change (e.g. IT, life sciences)
What do LBOs target firms seek ?
Generational transition or major reorganization
What do LPs like ?
Specialization because changing investment focus is a bad sign for them
What do some think about diversification ?
It is good for reducing idiosyncratic risk, but it can be done by individual investors
What do early stage VCs firms tend to do and why ?
Specialize in order to share info with other VCs
→ In order to form networks and pool information to better identify potentially good deals
Where does specialization occur ?
Both in terms of sector of the funded firms and location
What is key to attracting LPs and financing ?
Reputation building as a specialist in a sector or location
Where does specialization allow economies of time?
In evaluating deals
What is the scarcest resource in PE firms ?
Time because PE firms rely on limited personnel
What is the drawback of specialization ?
Too much exposure to a sector makes a firm vulnerable to market flucturations
Because deals come in waves, what should a PE look for ?
Look for opportunities in new areas, before investment in current sectors dries up
→ Larg VC firms prefer to diversify
What are the differences between top PE firms and smaller PE firms in finding deals ?
- Top PE firms get contacted by top entrepreneurs
- Smaller firms can hope for deals in niche markets
- If not many entrepreneurs, it will have to find deals by itself
What are the characteristics for proprietary deals ?
- Entrepreneur approaches directly GP
- To attract GP’s interest, entrepreneur more comfortable with releasing private information on firm’s prospects
- Such deals not contested and take less time for GP to process
- Often corporation between PE
- Reputation risk to GPs is higher
What are the two deal format and their characteristics ?
• Auction
o Bidders compete to acquire the target firm
o Especially relevant for buyout funds
• Private deals
o Proprietary deals
o Proactive deal searching
What are the effects of an auction for entrepreneurs ?
- Generate high price competition
* Make firm info available to competitors → solution = tiered auctions
What is the effect of a proprietary private deal for an entrepreneur ?
It gives the entrepreneur the right to choose a specialist GP to lead the deal.
What are the effects of an auction for GPs ?
- Easy deals to find and participate
- Time consuming
- Involve high price competition
What are the effects of private deals for GPs ?
- Not often contested
- Facilitate reciprocal invitations to deals among GPs
- Protect GP’s due diligence investment
- Involve more reputational risk for GP
What are the characteristics of a proprietary deal ?
- Easier disclosure of info to GP
- Vigilance against overconfident entrepreneurs
- Not always available to non-specialist PE firms
What are the characteristics of a proactive searching ?
- Necessary tool to allocate portfolio
* Requires more time and money
What are the different steps while making searchings for deals ?
• Decide sectors and locations
• Make preliminary deal search
o Roadshows
o Industry journals
o Personal relationships
• Active deal making
o Dial for deals
o intermediariesWhat are the different intermediaries for PE information ?
• Friends • Angels • Commercial bankers • Investment bankers • Stock brokers • Accountants, lawyers • Business development officers ! each has its own incentives to lie
How should an entrepreneur approach a PE firm ?
- Select GP partner
- Attract preliminary interest
- Make a presentation of firm
- Negotiate a deal
What are the characteristics of cycles ?
- = widespread phenomenon in PE investing
- Sometimes periods of easier fundraising
- Besides market wide cycles, some isolated to specific sectors or regions
- Not predictable how long it will last or if there is a new one coming
Why do cycles happen ?
- Normally supply = demand for PE financing
- Often supply limited by regulatory reasons
- Takes time to build a reputation as good PE firm and find LPs
- Supply responds sluggishly to demand shocks → produces cycles
What does a misjudging demand shock cause ?
An overshooting in PE supply
What are the implications of cycles on fund policy ?
• Quality of financing differs over the cycle
• Usually, investment made at peak of financing cycles yield on average lower returns
→ financing is hard; PE firm only undertakes best PE projects available
→ Implication : PE often raise financing with view to invest later, at more favourable times
