The last time Goldman raised an private-equity buyout fund was in 2007: at just over $20 billion, it was the second biggest private-equity fund ever. It also top-ticked the market.
Nine years later, the WSJ reports that Goldman is finally preparing a much anticipated sequel.
According to the paper, Goldman will begin marketing a new corporate-buyout fund of between $5 billion and $8 billion, its first such fund since the financial crisis. It is aiming for an initial close by the end of the year, the people said.
With blockbuster LBO deals largely missing from the landscape in recent years, perhaps as a result of record EBITDA multiples and an unwillingness on the side of PE firms to rush into what is clearly record overvalued assets, the effort shows “Goldman’s commitment to a corner of Wall Street that many rivals have abandoned.”
However, the upcoming fund looks different than Goldman’s past funds.
For one thing, the new buyout fund is smaller than prior ones, less than half the $20 billion Goldman raised in 2007 for GS Capital Partners VI. And Goldman will contribute just a tiny slice of its own capital this time, the people said, to comply with postcrisis rules meant to make banks safer.
It also won’t carry Goldman’s name. The new pool is named West Street Capital Partners, after the bank’s lower Manhattan address, in order to comply with a postcrisis rule that prevents private-equity funds from bearing the parent bank’s name.
The primary reason for the changes are the aftereffects of the “Volcker rule” implemented as part of Dodd-Frank, which has changed how banks can allocate their own prop capital. Under Volcker banks can contribute no more than 3% of the money raised by private-equity or hedge funds, and those investments in total can’t exceed 3% of the bank’s overall capital. Before the crisis, Goldman itself contributed up to one-third of the PE funds’ capital.
Goldman’s new fundraising will hit as private-equity firms are having trouble putting money to work. Assets are expensive as U.S. stocks have hit records, the WSJ adds, and they face tough competition from corporate acquirers, which can usually afford to pay more.
The reason for that is that in the centrally-planned “abnormal markets”, in many cases we have seen the stock, or acquisition currency in many cases, of the acquiror go up concurrently with that of the target. And courtesy of ongoing asset levitation, and ultra cheap debt, strategic acquisitions are far easier to execute.
To be sure, the lack of a strong PE bid in recent years is the best indication of just how overvalued assets truly are.
That said, Goldman’s historical experience with LBOs has been favorable. The bank’s fifth buyout fund, an $8.5 billion pool raised in 2005,?returned 2.5 times its money, and a 2000 fund returned just over twice its money, according to a person familiar with the matter. The 2007 ?fund has returned $22 billion so far and is expected to eventually make about 1.5 times its money, the WSJ notes.
Of course, there have been major mistakes. In 2007 Goldman was among the firms that took utility giant TXU private in the biggest LBO in history. That company later filed for bankruptcy after natural-gas prices turned, wiping out the private-equity firms’ stakes.
Whether due to Volcker, the lack of attractive acquisition targets, and a general push on Wall Street to slim down, many banks abandoned private equity. J.P. Morgan Chase & Co. spun off its in-house buyouts team, One Equity Partners, in 2015. Bank of America Corp. in 2010 sold one internal fund and spun off another. Goldman however, held on. The decision was in part a bet that the bank could navigate the new rules, and in part a reflection of a long history in merchant banking dating back to 1986.
It appears to have navigated the new rules enough to go where no other bank has gone before in the past several years. Currently Goldman’s private-equity arm oversees $65 billion in assets, split roughly evenly between private-equity buyouts, lending and real estate and infrastructure. How Goldman has implemented its fund is somewhat curious: fees from the fund flow into Goldman’s investment-management unit, where revenues are up about 20% over the past five years. At the same time, principal returns are folded into the bank’s investing and lending activities, what was once Goldman “prop trading” group, which reported $5.4 billion in revenue last year, about 16% of total revenues, but more than one-third of Goldman’s 2015 profits.
As a result of the reduced Goldman “skin in the game”, some investors are worried that because Goldman had little of its own money in the fund, its incentives were less aligned with investors. However, in the current yield-starved environment, where bond offerings by Ecuador are 5x oversubscribed, we doubt Goldman will have a problem finding willing sources of funds.
One place Goldman will look is its own employees. The bank hopes to raise $500 million or so from Goldman workers, which wouldn’t count against the 3% limit but could help assure clients that their interests and the bank’s are aligned.
As for the question whether Goldman’s latest foray into PE is – like in 2007 – a mark of yet another market top, that remains to be seen: considering that most central banks are now populated by Goldman alumni, we can see Goldman perpetuating the current song and dance for just long enough to generate another blockbuster IRR for itseld, and its anonymous investors (who may well be shell companies used by Goldman-affiliated personnel), before the music finally stops.
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