Opinion | Disruptive deals of 2020: Factoring in the unknown

A downside of meeting the same set of people over long periods of time is that there are various instances where you can almost pre-empt the conversations. The worst is when you fear that they would blurt out that most expected word that you dread the most.

“Disruptive”. Yes, let’s take that one. What started out as sounding smart and buzzy has now become an over-worn cliché. The word seems to be losing its power. “This bet of ours will disrupt this industry altogether ,” has been such an oft- repeated line from investors. On the other hand, “What we are innovating is totally disruptive,” is a phrase one often hears from upstarts.

That Silicon Valley buzzword has been repeated so tirelessly that it has eventually rendered a rancid aftertaste. Does it even mean anything any more? It used to. In the late 1990s, late Harvard Business School professor Clayton Christensen defined the concept of “disruptive innovation”, a principle whereby dominant product or service providers could have their leadership position disrupted by tech upstarts who offered solutions more simply or at a lesser cost.

For the fear of not missing out on such innovations, private equity (PE) investors, who have till now relied on backing companies with a steady, predictable revenue stream, get so seduced by their younger counterparts in the venture capital (VC) industry, that they seem to be upending their model and increasingly getting comfortable investing in growth and not necessarily profitability. Also, PE firms which had a technology “vertical” team, are now beginning to view technology as a horizontal theme cutting across many of their deals. However, capturing such disruptive innovation is proving to be more pain than joy for investors. The pace of technological change is increasing in almost every industry, making it harder to forecast winners and losers. There have been revelations in the form of recent drummings of some Silicon Valley torchbearers such as Uber and Slack and on the other hand the rise and rise of ByteDance (TikTok) which is now gearing up to take on Facebook.

The question is, can you price in the disruption risk? Disruption is not only relevant when talking about firms. Extrapolate that bad, unsettling, untidy thing to what’s happening all around us: persistent high prices, volatile capital markets, US-China trade arguments, and the ever-present threat of recession have injected a sense of uncertainty that dealmakers dislike. However, PE, the asset class that sits at the heart of deal-making, has proven to be extremely resilient. With deal volumes reaching an all-time high, valuations rising to at least pre-crisis levels and the amount of dry powder continues to grow seemingly indefinitely, PE is at its peak.

What began as an exercise to capture the unique alpha-generating capabilities of fund managers or GPs, has now turned into a beta play, given its relentless rise. Sample this: Assets in private markets increased by $700 billion alone in 2019 and about $4 trillion over the past decade. According to the McKinsey global private equity report, the number of PE -owned companies in the US has doubled since 10 years ago and the number of publicly traded companies is half that of 20 years ago. It is becoming clear that institutions, endowments and such investors need to be in PE if they want exposure to growth companies, regardless of whether they can pick the top managers. PE in India is on a similar high growth path.

At $48 billion deal value this year, Indian PE/VC investments are clearly an outlier growing at 30% y-o-y. It is worth looking at key trends emerging in the industry whose progress appears relentless.

Acquiring ‘Green’ label: Companies such as large oil behemoths to technology giants are opening up their coffers to acquire ‘green capabilities’. “GPs can no longer do without a clear environmental, social, and governance (ESG) strategy,” writes Hugh MacArthur, global head of Bain & Co.’s PE practice.

Marginalization of fund managers: Big funds are getting bigger. Globally, half of the total amount of money raised in 2019 was pulled in by buyout funds of $5 billion or more. Academic research suggests that greater persistency may be found at the level of individual deal partners.

At a time when interest in PE is superabundant, the task ahead for fund managers is to establish how they are different from each other: repeat successes, building an institution will be the ultimate yardstick. Finally, talking about disruption, an economic recession that got further exacerbated by a global pandemic crisis, surely takes the cake!

(Shrija Agrawal is executive editor, HT Ideas Lab, Hindustan Times Digital. Due Diligence will cover issues in India’s venture capital, private equity, deals and startups space.)