As inflation and interest rates rise, how are private equity firms in the lower mid-market closing deals? To find out, PE Hub reached out to Jon Pressnell, a partner at Blue Point Capital Partners.
The PE firm, which has offices in Cleveland, Charlotte, Seattle and Shanghai, backs companies that generate between $30 million and $300 million in revenue in the industrial, business services, consumer and value-added distribution industries. The firm is often the first outside provider of equity capital in a growing business.
Blue Point has closed several deals this year. In August, the firm made a platform investment in Water Lilies Food, a Bayshore, New York, maker of frozen egg rolls, dumplings and other Asian-inspired cuisine. The firm invested alongside Peter Lee, second-generation family member and CEO, who retained a significant ownership position in the company. Lee’s family founded the business in 1995.
This Spring, portfolio company Brimar made an add-on deal for Crowd Control Warehouse, a designer and distributor of barricades, belt barriers and traffic control devices; and another portfolio company, National OnDemand, acquired Unified Utility Alliance, a cable and fiber construction company.
Here are Pressnell’s thoughts on market conditions, based on his experience closing deals this year.
How is Blue Point managing the gap in expectations between buyers and sellers?
We have seen sellers who have value expectations that were likely set pre-covid, pre-Ukraine, pre-inflation.
A few things we have done to bridge these potential gaps:
Continued to invest in our value-add resources, including our integrated team across global supply chain, data and digital and human capital, as well as leverage our operating executive network, among others.
We look for meaningful rollover equity from sellers and management with the goal being that they see the value we bring with our experience and capabilities and are encouraged by the value creation plan which helps bridge those gaps.
What’s the impact of rising interest rates on deal valuations?
Rising interest rates have a dampening effect on valuations, and the combination of rising rates, inflation and recessionary concerns seems to have made buyers more cautious around certain end-markets and business models, but for the size of companies where we typically play, we haven’t seen significant valuation reductions, especially for quality assets.
The deals you’ve closed in 2022 span several industries. What do they all have in common that allowed the deals to be completed in this environment?
With add-ons, we have really focused on highly strategic additions that expand customer base, geographic presence, service offering, etc. For platforms, we have focused on finding opportunities where we can bring transformative and unique capabilities to the table. For example, our recent Water Lilies investment is one where we have over a 10-year history of investing in food and beverage businesses, operating partners with direct frozen Asian cuisine market experience and a track record of helping founder-led businesses. Local deals also continue to be a key player, as five of our last eight platforms have been a regional relationship.
What types of deals are closing today?
The market remains competitive for quality companies. Private equity buyers remain active as buyers and sellers, and we have seen more activity from strategic buyers as well. There seems to be more cautiousness around companies that are feeling or likely will feel recessionary pressures, and I believe some of those processes are waiting to see how this year and the next play out, but good businesses with strong teams and clear growth opportunities continue to demand strong multiples.
There was a big rush to close deals in 2021. How much slower is the process in 2022? Is due diligence lasting longer?
I don’t believe we have seen a big difference in process timelines in 2022. That said, I think firms, including Blue Point, are spending more time early in, and ahead of, processes to really try to build conviction around opportunities so that we can distinguish ourselves in the minds of sellers. So, while timelines from, let’s say LOI to close, may not have extended, the time we are spending evaluating companies, in total, has extended.
Are loans harder to get and more expensive? Has the ratio of equity to debt changed in your deals? Have covenant terms changed?
Our portion of the debt financing market is generally less volatile than the larger funds, and we typically are not looking for the highest leverage multiple possible, so we haven’t seen a significant shift. It’s tough to say, but the market has probably pulled back 0.25x to 0.5x on total available leverage alongside the rise in underlying interest rates, but I don’t think we have seen any other significant shifts in other terms or covenants.
Tell us about Blue Point’s expectations for deals that close in 2022 in terms of exits and returns and hold period?
Our underwriting expectations on returns and timing of exits really haven’t shifted. Our focus for each business is particularly on how we can grow and make them stronger and more valuable, and exit timelines are more a function on what we have done and still can do for a business as opposed to being dictated by the calendar.