According to Kevin Callahan, Managing Director of Berkshire Partners (which has a $4,500,000,000 Fund 8), the year 2013 will be complicated, but with many PE opportunities for the careful investor.
Speaking before a Boston meeting of the Association for Corporate Growth on January 17th, Callahan started with a summary of 2012, which he characterized as a “rough year”: the whole industry took heat through criticism of Bain during the election, the recognition of income inequality as a social problem made it a difficult year to do PE, LBO and other acquisition activities fell off somewhat from 2011 (and remain massively below peak years 2006 and 2007), and price multiples and leverage increased across both large and small transactions.
What about 2013?
There is a “bear” case for 2013: Europe is in a mess, U.S. economy is not clarified, unemployment is high, prices and leverage remain high.
But there is also a “bull” case for 2013: Berkshire believes that the micro opportunities in particular industries such as consumer goods, technology and healthcare will trump macro negatives; interest rates remain low; certain US market segments such as manufacturing and construction are on recovery cycles.
Callahan then launched into a defense of the role of private equity: it fills a void in the capital markets, it is a proven asset class through three cycles, at least the top half of the funds out-perform public securities markets, PE is a constant performer during recession. He does not see the number of private equity funds falling substantially; unlike hedge funds which operate on “one bad year and you are out,” hedge funds have a longer horizon and structurally are not built to disappear rapidly given the provisions of their partnership agreements.
Finally and most controversially, Callahan gave up the ghost on tax treatment of carried interests; as a logical matter, he suggested, they really are ordinary income, and are not entitled to favored capital gains treatments. He does not see this as the slightest impediment to the growth of private equity; to paraphrase, he observed that “no one entered this business because of the tax breaks.”