CONFIDENTIAL
Perspectives on the Global Private Equity Market
Presentation at the Alternative Investment Conference - Montreal April 24, 2008
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Agenda
Private equity background Drivers of private equity performance How to invest in private equity Appendix - Perspective on the private equity market
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Private equity investing consists of buyout and venture capital opportunities
Buyout funds • Usually invest in mature, typically cash-flow-generating companies, and provide funding for investments involving expansions, turnarounds, spin-offs, or consolidations • Use their own capital to purchase the equity and use leverage (debt) to finance the remainder of the purchase price
Venture capital funds • Typically focus their attention on smaller, less mature companies that require capital for research and/or product development, and marketing, as well as other activities which commonly occur during the earlier stages of a firm’s life cycle • Generally do not use leverage and provide funding through a series of equity investments as operating milestones are met
3
North American institutions are typically allocating 5% to 10% to the asset class
Strategic (targeted) allocation to private equity by type of organization 2007 (North America) (%)
Endowments/ Foundations
9.2
Public Pension Funds
6.4
Corporate Pension Funds
5.5
Source: Russell Investment Group Alternative Investing Report 2007-2008.
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Private equity has delivered strong long-term returns
Return Comparison – Public vs. Private Equity
Drivers of Private Equity Returns • Active, hands-on value creation model • Alignment of manager/owner interests • Illiquidity premium • Structural, governance and informational advantages
Private Equity Horizon Returns (%) 1 (Period Ending September 30, 2007) Years 3 5 10 26.87 13.60 13.01 18.67 11.80 15.37 13.75 10.50 6.53
1
15 16.60 14.20 11.08
20 15.11 13.80 10.56
Since 2 inception
TD Capital Fund Investments 3 VE Private Equity Index S&P 500 5
4
17.12 14.20 11.24
1 The internal rate of return ("IRR") is an annualized money-weighted return calculated using periodic cash flows and end of holding period valuations. Performance of all Fund Investments made by TD Capital in years 1969-2007 is measured as of September 30, 2007 after all fees, expenses and carried interest of all the underlying partnerships but has not been adjusted to reflect estimated fees and expenses of TD Capital. 2 Since Inception returns measured from December 31, 1969 to September 30, 2007 for all markets except Buyout for which TD Capital's first Buyout Fund Investment occurred November 21, 1980. Benchmark returns for this segment contain Buyout Funds raised from 1980 onwards. 3 Performance of all Fund Investments made by TD Capital is measured as of September 30, 2007 net of underlying Fund Sponsor fees and expenses but before TD Capital fees and expenses. Returns as at September 30, 2007 are estimates and are subject to change. 4 Source for Private Equity Benchmark Returns: Venture Economics Thomson Financial: Investment Horizon Summary Reports run on January 25, 2008 for the US Primary Market as at September 30, 2007. Database last refreshed on October 15, 2007. Venture Economics data is continuously updated and is therefore subject to change. 5 Source for Public Market Benchmark Returns: Bloomberg L.P., TD Capital Private Equity Investors estimates - Total Returns for S&P 500 Index figures assume dividends are reinvested into the index. These returns do not reflect the cash flows used to calculate the Private Equity Benchmark returns or the TD Capital returns and accordingly a direct comparison may not be meaningful.
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Growth in the number of private equity funds has made manager identification and selection more important - and more difficult
Cumulative number of direct investment funds (1990-2006)
8,879 8,331 7,905 7,373 6,473
10,072 9,504
Key considerations Key considerations
• Extensive resources and expertise required to effectively cover complex and fluid marketplace • Proactive deal flow generation is key to sourcing top-tier managers • Systems and processes are essential to manage and evaluate deal flow
4,782 3,693 2,873 2,183 1,697 648 929 1,253
257 428
1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006
Source: Venture Economics. All private equity funds, excluding Fund of Funds and Secondary funds.
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The current wave of fundraising has demonstrated the increasing cyclicality of the private equity asset class and the importance of longterm diversity across vintage years and asset class
Buyout Commitments Venture Commitments
30
All Private Equity Vintage Year Returns
Funds less than 5 years old are in the early stages of their life cycle and experiencing the J-curve effect 176 171
25
138
20
105
121
15
87 80 68
S&P500* 11.2% (19692007)
10
29 19 6 8
1986 1987 1988 1989
58 35 38 33 39
VE Index* (1969-2007) 14.2%
5
15
15
10
1990
16 8
1991 1992
19
0
1985 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006
-3.6 -5.9
Buyout Vintage Percent year returns* Venture Percent
65.7 20.6 12.8 11.1 21.6 14.2
8.3 20.2 19.4
9.6
7.9
5.5
8.4
2.5
9.8 11.1 17.6 20.0 35.3 19.3 -6.6 1.2 3.6 3.9 3.9 6.3
9.7 -2.7
NM
10.0 12.5 14.8 20.4 17.9 28.2 28.5 32.6 37.6 39.1 59.9 83.7 49.6 20.8
NM
* As at September 30, 2007 Source: Thomson Venture Economics Cumulative Vintage Year Performance Report, Pooled Average for US Primary Market for All Private Equity, Venture and Buyout Funds (report date February 8, 2008)
2007
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Agenda
Private equity background Drivers of private equity performance How to invest in private equity Appendix - Perspective on the private equity market
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Portfolio company managers identify a number of benefits from private equity
Portfolio company managers identify a variety of benefits from private equity ownership
Percent of survey respondents
Change for the better
No change Change for worse
Key aspects of private equity transactions • Facilitation of structural change – Resolve succession issues – Provide growth financing – Facilitate industry consolidation – Elimination of regulatory burden • Alignment of interests – Strong management incentives – Long-term investment horizon • Balance sheet restructuring – Dramatic changes to ensure can service debt – Instil entrepreneurial growth culture
50
65
55
60 80
45 5
30 5
40 5
35 5
12 8
Cost management
Operational efficiency
Marketing
Executive recruitment
Strategy
Source: PriceWaterhouseCooper and AVCAL survey 2006
Profitability development in buyouts – management perceptions
Percentage of respondents answering
Significant improvement
Improved Unchanged Decline Significant decline
Source: KPMG, 2006
33% 34% 18% 11% 4%
Improved profitability leads to greater tax revenue, job creation, invested capital for investment and fewer bankruptcies
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Private equity transactions create value through growth and operational improvement, not restructuring or leverage
Organic revenue growth is the primary driver of EBITDA growth in private equitybacked companies US Cost reductions, restructuring Other
8% 23%
Leading private equity firms focus on fundamental value creation rather than leverage Source of value (%)
Leverage Multiple arbitrage Operational improvement
Organic
48% revenue
growth
21%
32 51
25
Acquisitions Europe Cost reductions, restructuring
46
39
Other
3%
31 36
31%
44%
Organic revenue growth
18
Leverage era (1980s)
22
Multiple expansion era (1990s) Earnings growth era (2000s) Operational improvement era (2010s)
Acquisitions
22%
Source: Goldman Sachs; BCG IESE estimate
Source: Ernst & Young “How Do Private Equity Investors Create Value”, Survey of top 100 exits in 2006
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Studies have shown a strong correlation between active ownership by private equity firms and superior performance
Leading edge practices of top-tier firms… • Seeking out expertise and privileged knowledge – and conducting extensive due diligence before investing • Instituting substantial and focused performance incentives for senior company management
…have produced sustainable portfolio company outperformance
Primary source of value creation Percent Arbitrage Market/sector appreciation plus financial leverage
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• Designing specific value creation plans and executing on them more effectively
• Devoting more time to planning in the initial stages of deals • Strengthening management teams early in the investment, often before closing
32 63
Company outperformance
Source: McKinsey & Company
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Plan sponsors predict that private equity returns will continue to outperform other asset classes
Plan sponsors’ rate of return expectations across various asset classes
Private equity
10.1%
Based on the 2007-2008 Russell Survey of leading institutional investors…
• Median annualized forecast private equity returns for 2007-2009 are expected to range from 9.0% to 15.0% globally • Allocations to private equity are forecast to increase through 2009, with more popularity for secondaries and venture capital over the next three years • Markets that have traditionally had lower allocations (Europe and Japan) are expected to show the largest increases
EAFE
8.3%
Canadian equities
8.2%
US equity investments
7.8%
Real estate
8.0%
Hedge funds
7.0%
Fixed interest investments
4.9%
Source: Greenwich Associates, January 2007; The 2007-2008 Russell Investments Survey on Alternative Investing.
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Agenda
Private equity background Drivers of private equity performance How to invest in private equity Appendix - Perspective on the private equity market
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Sustainable out-performance in private equity is dependent on successful implementation
Key success factors in private equity
Manager Selection and Access
Diversification
Sustainable Outperformance in Private Equity
• Successful participation in private equity requires that each of these key factors be considered and applied in building out a long-term investment program • TD Capital Private Equity Investors’ fund of funds program successfully addresses each of these key considerations
Timing and Sequence of Allocation
Administration
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In private equity, access to top quartile managers is critical – and limited Manager Selection and Access
Wide dispersion in returns makes focus on top performers imperative
Percentage point spread between top and bottom quartile performance, 1996-2005 Follow-on fund performance
Persistence of performance and limited fundraising makes access a constant challenge
Percent 73 63 52 Top quartile
Venture Capital*
19.8
45
32 23
28
Buyouts*
15.5
2nd quartile
28
31
29
21 7
Public Equity**
2.7
Top 2nd 3rd Bottom quartile quartile quartile quartile Prior fund performance
* Venture Economics U.S. Cumulative Vintage Year Composite Performance (IRR) as of December 31, 2005 for vintage years 1996-2005. ** Watson Wyatt Worldwide Pooled Fund Report as of December 31, 2005. Note: Private equity returns are calculated as internal rates of return ("IRRs"), while those for the public markets are not. Direct comparisons are therefore not possible.
Source: McKinsey & Co.
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Private equity investing requires a proactive and selective approach
Manager Selection and Access
TD Capital Example – Funds Reviewed in 2005-2007
Proactive Market and Manager Research
Screening
Initial manager meeting
Investment team review
Formal due diligence
Beat up committee review
Investment committee
38 fund investments
>1000
716
63
44
42
Number of funds/managers
Of the 38 fund investments, most were with managers with whom TD Capital had a prior investment relationship
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Fund of funds offer an attractive risk profile
Balanced diversification
The Risk Profiles of Private Equity (%)
Risk of some loss
42
Risk of total loss
Key private equity diversification parameters • Manager
30
30
• Fund type (buyout; venture capital) • Sector focus
• Geography
• Investment type (primary; secondary, coinvestment)
1
Direct investment in single private company Investment in single private equity fund
1
0
• Vintage year
Investment in private equity fund of funds
Number of portfolio company investments 1 6 - 12 (Buyout) 20 - 40 (Venture) 400 - 1200
Note:
Comparing the risk profiles of venture capital investment vehicles. Data contains about 5,000 direct investments (US data - no European data available), 300 European funds and 50,000 simulated European fund of funds. Source: Weidig and Mathonet report, “The Risk Profiles of Private Equity”, January 2004.
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A successful private equity program requires efficient administration
Administration TD CAPITAL EXAMPLE
Institutional investor in private equity (Indirect exposure to portfolio of 20 funds)
Clear and concise communication
(Portfolio of 20 funds)
400-600 administrative events/notices per year
Quarterly and annual reporting Monitoring and risk management Capital calls/ distributions Annual meetings
Administrative/legal amendments
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Private equity funds draw down and distribute capital over time
Timing/Sequence of Allocation
Single $10 million commitment US $ Millions
ILLUSTRATIVE
7.0 6.0 5.0 4.0 3.0 2.0 1.0 0.0 Year 0
PE Commitment Capital Calls Distributions Net Cash Flows Net Invested Capital 0.00 0.00 0.00 0.00 0.00
Inv ested Capital
• Target Private Equity allocation of $10 million never reached with single fund commitment given net cash flows • Amount of net invested capital in each fund declines rapidly after year five or six – depending on investment pace
Year 1
10.00 (0.69) 0.01 (0.68) 0.68
Year 2
0.00 (1.49) 0.04 (1.45) 2.14
Year 3
0.00 (2.21) 0.21 (2.00) 4.23
Year 4
0.00 (2.03) 0.73 (1.30) 5.84
Year 5
0.00 (1.53) 1.50 (0.03) 6.49
Year 6
0.00 (0.94) 2.05 1.11 6.23
Year 7
0.00 (0.57) 2.47 1.89 5.36
Year 8
0.00 (0.29) 2.53 2.24 4.17
Year 9
0.00 (0.18) 2.83 2.65 2.70
Year 10
0.00 (0.04) 2.51 2.46 1.28
Year 11
0.00 (0.02) 1.63 1.60 0.36
Year 12
0.00 (0.00) 0.62 0.61 0.00
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An ongoing investment program is required to achieve and maintain a full allocation to private equity
US $ Millions
Timing/Sequence of Allocation
ILLUSTRATIVE
12.0
Cumulative net invested capital
10.0
8.0
$ Millions
Fund I
6.0
Fund II
Fund III
Fund IV
Fund V
4.0
2.0
0.0
Years
PE Commitment Capital Calls Distributions Net Cash Flows Net Invested Capital
0
-
1
10.00 (0.69) 0.01 (0.68) 0.68
2
(1.49) 0.04 (1.45) 2.14
3
(2.21) 0.21 (2.00) 4.23
4
7.50 (2.54) 0.74 (1.81) 6.35
5
(2.65) 1.54 (1.11) 8.10
6
(2.60) 2.22 (0.38) 9.41
7
7.50 (2.61) 3.02 0.41 10.25
8
(2.56) 3.70 1.15 10.65
9
(2.54) 4.53 1.99 10.55
10
7.50 (2.51) 4.92 2.41 10.20
11
(2.51) 4.70 2.19 9.96
12
(2.50) 4.44 1.94 9.88
13
7.50 (2.50) 4.29 1.79 9.88
14
(2.50) 4.29 1.79 9.88
15
(2.50) 4.29 1.79 9.88
16
(1.99) 4.28 2.29 9.37
17
(1.38) 4.25 2.87 8.27
18
(0.84) 4.13 3.29 6.70
19
(0.46) 3.73 3.27 4.99
20
(0.23) 3.12 2.89 3.40
21
(0.14) 2.59 2.45 2.03
22
(0.03) 1.88 1.85 0.96
23
(0.02) 1.22 1.20 0.27
24
(0.00) 0.46 0.46 0.00
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Funds less than 5 years old typically show negative interim returns as they track through the “j-curve” Timing/Sequence of Allocation
ILLUSTRATIVE
J-Curve Phenomenon • Declining values early on as funds recognize fees and write-downs prior to realizations or external financing events Funds less than 3 - 5 years old have a significant percentage of undrawn and uninvested capital Investment periods are typically 5 years long, with underlying investments typically held for 3 – 7 years before realization
200 150 100 50 0 (50) (100)
Illustrative J-Curve
•
•
0
1
2
3
4
5
Year
6
7
8
9
10
$ millions $10MM commitment
Drawdown Distribution Net investment
2.06 2.41 (0.02) (0.06) 2.04 4.39
2.17 1.50 (0.25) (0.92) 6.27 6.85
0.92 (1.42) 6.35
0.39 0.42 (1.25) (1.65) 5.49 4.26
0.07 (1.54) 2.78
0.05 (1.77) 1.07
0.01 (1.08) –
Source: Venture Economics/NVCA; TD Capital proprietary investment pacing model.
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Agenda
Private equity background Drivers of private equity performance How to invest in private equity Appendix - Perspective on the private equity market
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Up until July 2007, the availability of leverage enabled both larger buyout deals and higher prices
Average purchase price/EBITDA and total debt/EBITDA for US transactions* vs. default rate
2.0% 10.0x 9.0x 8.6x 8.0x 8.3% 8.1x 8.0% 7.3% 7.0x 7.5x 6.8x 6.4x 6.0x 4.0% 5.0x 5.0x 4.7% 6.1x 4.0% 4.9x 4.3x 4.0x 1.4% 1.7% 4.1x 3.9x 3.0x 3.5x 2.6% 1.8% 3.0% 4.6x 5.0x 5.1x 2.0% 6.5x 6.2x 6.7x 6.0% 7.1x
10.0x
10.0%
7.9x
4.1x
1.0% 0.7% 0.0%
1997
1998
1999
2000
2001
2002
2003
2004
2005
2006
Q207
Purchase price/ EBITDA
Debt/EBITDA
Default rate
Source: Standard & Poor’s Notes: JPMorgan Domestic High Yield Default Rate. Acquisition and leverage multiples are Q2 2007 and default rate is LTM 8/31/07 * Excludes Media and Telecom loans
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The easy credit came to a stop in July 2007; lending terms and market conditions are returning to more traditional levels
US leveraged loan volume US$ Billions
$26.7 $26.7 $23.7
$31.1
• “Zero tolerance” of covenant-lite and PIKtoggle terms • Syndicating banks dealing with “hung” bridges • Distressed players starting to invest • Buyout sponsors raising opportunistic credit funds
$13.3 $7.9 $0.1 May-07 Jun-07 Jul-07 Aug-07 Sep-07 Oct-07 Nov-07
US high yield bond volume US $ Billions
$25.4 $25.3 $19.2
$6.6 $3.8 $2.4
$5.6
May-07 Jun-07 Jul-07 Aug-07 Sep-07 Oct-07 Nov-07
Source: UBS; S&P
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Since July, M&A deals have declined sharply in number and volume
2007 M&A announced deals and deal value by month* US$ billions
NA Number of deals
NA Total deal value
EU Number of deals EU Total deal value
$450 $400 $350 $300 $250 $200 $150 $100 $50 $0
150 140 130 120 110 100 90 80 70 60 50 40 30 20 10 0
Deal decline since July has been largely related to a decrease in the announcement of large transactions
Jan
Feb
Mar
Apr
May
Jun
Jul
Aug
Sep
Oct
Nov
Dec
*North American & European with transaction values over US$100 million Source: Capital IQ
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The credit crunch has had a significant impact on buyout transactions, particularly at the large end of the market
While large-cap deals have disappeared… Announced North American LBO transactions over $500M in size $ Billions Credit market dislocation
125 100 75 50 25 0
…middle market deal flow has continued but at a reduced pace Announced North American LBO transactions below $500M in size $ Billions Credit market dislocation
5 4 3 2 1 0
2007
2008
2007
2008
Source: Thomson Financial
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The impact of current credit market conditions on private equity valuations and deal flow should be closely monitored
Current portfolio company valuations
Pending deals (committed but not yet closed)
Broken deals
Future deals and deal flow
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