Private equity firms looking to cash out their investments in once-troubled U.S. banks may have to pursue alternatives to traditional exits, says Fitch Ratings in a new report.
The rating agency says that, “more than four years after the onset of the financial crisis, when many PE firms made initial investments in U.S. banks that were starved for capital, most investors are weighing exit options carefully as their typical investment periods of three to five years come to a close.”
However, it suggests that the combination of rising bank regulatory costs, a persistently low interest rate environment, and weak equity valuations, may force more private equity investors to seek alternative investment return strategies in 2013, including more reliance on share repurchases and special dividends in place of initial public offerings and M&A transactions.
“The operating challenges faced by many smaller banks backed by private equity, including historically low net interest margins and higher regulatory compliance costs, have depressed expectations for organic returns,” it says. “This has led many prospective acquirers and equity investors to mark down valuations, in many cases undermining exit economics for PE investors looking to sell stakes in leveraged banks.”
As a result, Fitch says that early evidence of this shift in exit strategies began to emerge in 2012, when many high-profile investment firms sought cash distribution policies or, in some cases, by extending their investment time horizons.
It notes banks announced special dividends and share repurchases in December, adding that, “absent a robust turnaround in U.S. bank fundamentals in 2013, we expect more institutions with PE backing to evaluate alternative exit scenarios more carefully this year.”