Survey II Results – Winter/Spring 2010

Survey II Findings– Winter/Spring 2010January 27, 2010
John K. Paglia, Senior Researcher,
Denney Academic Chair,
and Associate Professor of Finance

Private Capital Markets Survey
Web-based survey that included banks, asset based lenders, mezzanine funds, private equity, venture capital, and privately-held companies
Typical survey asked about firm profile, credit box, historical returns, expected returns, view of next 12 months
Capital providers were surveyed in October and November 2009
Over 700 responses

Banks (Senior Lenders)
Tough Credit Environment
Despite fewer applications, the time to process loans has increased
82% report reductions in credit quality of borrowers
45% report smaller loan sizes
64% report reductions in cash flow multiples
45% report declines in standard advance rates on collateral
Industry Challenges Continue
Increases in delinquency rates (nearly half report an increase)
Increases in charge-off rates (nearly half report an increase)
80% report the number of loans being made by competitor banks declined

Banks (Continued)
Motivations for Loans
Refinancing at 40.2% (44% previously)
Acquisitions at 17.1% (7% previously)
Growth at 9.8% (12% previously)
Important Factors when Lending
Collateral at 14.8% (7% previously)
Liquidity (14.1%)
Debt to cash flow (12.2%)
Fixed charge coverage (12.1%)

Asset Based Lenders
Restrictive Credit Environment
82% report increases in loan applications
73% report lower percentage of borrowers approved for credit
Industry Concerns Linger
Increases in delinquency rates
Increases in charge-off rates
Declines in the number of loans being made by competitor banks

ABLs (Continued)
Acquisitions at 10.4% (22% previously)
Advance Rates
Vary by collateral type and quality
Highest for marketable securities and receivables
All-in Rates Decline Significantly for Larger Loans: Working Capital

Mezzanine Funds
Signs of Growth
Nearly 78% report increases in business plans received
Slight net increase in number of investments being made
54% of respondents report growth in the size of industry
48% report increases in warrant coverage
Risk Aversion
Nearly 52% report a decrease in cash flow multiples
56% indicate a decreased appetite for risk
48% report an increase in interest rate spreads
Net increase in tightness of financial covenants
MBOs at 24.6% (21% previously)

Mezzanine (Continued)
Financial Ratios
A typical firm will invest up to 4X EBITDA (3.75X previously)
Up to 2.5X can be senior debt (unchanged)
Minimum fixed charge ratios are 1.1X (1.2X previously)
Pricing
Median coupon rate of 14% (previously 13%)
Nearly 58% with PIK provision
65% of deals with warrants (4-8% of diluted ownership)
Expect 8% return on warrants
Targeting Service and Manufacturing Over Next 12 Months

Private Equity
Challenging Investing Environment
53% report a decline in leverage multiples
62% report a decline in deal multiples
68% report a longer time to exit deals
70% report a decline in the size of industry
Interesting Minority Interests
Nearly 70% of respondents report willingness to invest in minority interests with investor protections
Median discount from pro rata is 20%
Deal Flow Funnel
100 plans reviewed (up from 80)
15 meetings
5 term sheets
2 letters of intent

Private Equity (Continued)
Exit Plans for Portfolio Companies
43% report plans to sell to a public company (up from 35%)
30% plan to sell to another PEG (34% previously)
7% IPO (previously 9%)
Service and Manufacturing Industries Targeted Over Next 12 Months
Service at 30.7% (up from 27.3%)
Manufacturing at 23.8% (up from 21.3%)
Retail down to 0.8% from 4.1%

Venture Capital
Contraction Continues...
59% report a decline in percent of plans funded while 66% report decreasing percentages of “up” rounds
61% report an increase in time to exit
73% report a decrease in appetite for risk
61% believe fundraising prospects have declined
91% report a contraction in size of industry
Yet Hope Remains
Nearly 48% report increases in number of business plans received
Approximately 46% report an increase in number of high-quality investment prospects
45.5% report increases in quality of portfolio
Review 100 Business Plans to Close a Deal

Venture Capital (Continued)
Higher Expected Sales to TVI Ratios for New Investments Made in Last 6 Months
Stage 1 increased from 8.2X to 9.5X
Stage 3 from 6.4X to 8.5X
Stage 6 rose from 3.9X to 5.5X
Longer Expected Time to Exit for New Investments Made in Last 6 Months
Stage 1 from 6.2 years to 7.5 years
Stage 3 from 5.1 years to 6.5 years
Stage 6 from 3.8 years to 3.5 years (shorter)
Implied Returns on Investment Lower
Stage 1 from 40.5% to 35.8%
Exit Plans
Sell to public company is 58.9% (previously 50%)
Sell to private company is 21.6% (previously 24%)
IPO is 12.4% (down from 17%)

Venture Capital (Continued)
California is Target for Nearly 36% of Investments over Next 12 Months
Nearly 10.7% outside of U.S.
5.7% in Texas
Massachusetts decline from 6.9% to 3.6%
Clean Technology is Industry Targeted for Largest Concentration of New Investment over Next 12 Months
Increase from 12.3% to 14.5%
Software from 15.8% to 13.5%
Hardware from 6.7% to 3.2%
Biotech from 11.6% to 9.8%

Privately-Held Businesses
Glass Half Empty or Half Full?
Despite nearly 50% indicating increased competitive pressures, approximately 64% report that growth opportunities increased relative to 6 months ago
However, nearly 46% report decreased access to capital
Businesses Report Varied Costs of Capital, Paybacks, and Expected Returns
Realistic, Optimistic, or Delusional?
Approximately 57% believe they qualify for a bank loan
Nearly 47% believe they qualify for a private equity investment
Almost 41% believe they qualify for venture capital

Investment Analysis Techniques
Frequency of Use in the Private Markets

12 Month Outlook

Thank You!
John K. Paglia
Associate Professor of Finance
Senior Researcher, Pepperdine Private Capital Markets Project
Bschool.pepperdine.edu/privatecapital
John.paglia@pepperdine.edu

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Survey II Results – Winter/Spring 2010

by Pepperdine University Graziadio School of Business and Management on Feb 05, 2010

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