The Private Equity Gossip Column IV

Welcome back dear readers to the merry-go-round of acronyms and overheard ideas that is private equity. This week a lot of us enjoyed Superinvestor in London, which in reflection was time well spent, and champagne well drunk.

?Hand-Some

To kick off the frivolous news of the week, I am happy to announce that handshakes are firmly back on the market. COVID-19 allowed the wonderful dynamic of a doe eyed youngster to fist bump a veteran GP with multi-billion AUM. No matter how much I would love to continue greeting people like I am Snoop Dogg, it seems that handshakes are re-establishing their hegemonic grip upon business conversations. I still never got to say ‘mo money mo problems’ to anyone.

?I see real people

Primate psychology generally requires 3 dimensions to judge a character, and strange things happen at a conference when magically an extra dimension is added to a person who you have only met via Zoom. Everyone seemed taller, better looking and more intelligent in person than digitally. Getting out of the house is pretty great, I can recommend it.

?EBITDA-pocalypse

The juiciest gossip that I heard at the conference requires me to unforgivably use a whole slurry of acronyms and accounting language. I apologise in advance, but stick with it, it gets good.

Everyone seems to be ranting and raving about EBITDA purchase multiples these days, as we are seeing companies being bought and sold for record prices. The closer inspection of this is perhaps even more outrageous that we initially anticipated.

A typical conversation with a fund can go something like this:

“We purchase companies of 10x EBITDA, and sell for generally 15x EBITDA”

This all sounds lovely, as we fantasize about this juicy arbitrage opportunity. However, under the hood there are many other things one should consider when listening to these claims.

EBITDA can either be GAAP (generally accepted accounting practice) or PF (Pro-Forma). In short, Pro-forma can have R&D, add-on acquisitions, and many other things added to the EBDITA figure, and GAAP is a more conservative figure, with many of these PF figures thrown out. These figure can also be NTM or LTM (Next twelve months or last twelve months).

The next level of complexity is there is PF EBITDA, and then there is PF EBITDA. I heard several stories of companies being sold based on NTM PF EBITDA where all potential add-on acquisitions, even those with whom there was no LOI, or even an agreement were added. Apparently, some of these companies were just in the pipeline with a couple of phone calls to prove a relationship.

So in the end, a company can be sold for a NTM PF EBITDA multiple that has very little bearing on the real value of the company, as hypothetical scenarios are being used to judge that value.

This all can be summed up in a story I heard of an LP invested into 2 funds?(let’s call them A and B). Fund B bought a company from Fund A. Fund A hailed the sale as a giant success with huge EBITDA multiple arbitrage, and Fund B claimed to be getting the bargain of the century.

When comparing the company accounts from both funds, given the disjoint in accounting practices (and perhaps selective reporting) you would have the impression that you were looking at two totally different companies.

This just proves that no matter what the question, the answer is always “MORE DUE DILIGENCE”.

So I guess in life and in Private Equity, finding out what the sausage is made of can save you a heart attack later on.

To finish off with a joke about acronyms I’ll refer to my favourite comedian, the late Norm Macdonald:

?ID, now that’s a strange abbreviation. The “I” is short for “I”, and the “D” is short for “Dentification”