Ten Key Questions Facing the Private Equity World

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Ten Key Questions Facing the Private Equity
World

• David Rubenstein
• Co-founder Managing Director

February 27, 2008
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Questions for Audience

• 1. How many of you are GPs?
• 2. LP's?
• 3. Service providers?
• 4. Media?
• 5. Labor unions?
• 6. Think the golden age is over and that the best
  days of private equity are behind us?
• 7. Think the best days lie ahead?
• 8. Think there will be buyouts of 5 or 10 billion
  this year?
• 9. Next year?
• 10. Think there will be visible bankruptcies?
• 11. Think returns will be better from deals done
  now? worse?
• 12. Think taxes will go up? Stay the same? Go
  down?
• 13. Think private equitys image will improve?
  Worsen?
• 14. How about the next president? Who thinks it
  will be Obama, Clinton, McCain, Huckabee?

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1. Will Leverage for Buyouts Return in Time for
PE Investors and Professionals to Stay with the
Industry?
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Leveraged Loan Volumes Will Recover

• US Leveraged Loan Volumes Bounced Back after the
  Downturn of 2000-2001

US Buyout Leveraged Loan Volume (Bn)
1,929
1996
1997
1998
1999
2000
2001
2004
2003
2005
2006
2002
2007
Source SP Leveraged Buyout Review
5
Leveraged Loan Volumes Will Recover

• While European Issuance has Grown Every Year
  Since 1999

European Buyout Leveraged Loan Volume (Bn)
2005
2006
2001
2002
2007
2000
2003
1999
2004
Source SP LCD
6
But This Will Not Happen Overnight

• In the US, it took roughly three years for
  leveraged loan volumes to match their previous
  highs after 2000
• And those three years were challenging for
  private equity investors
• In 2001 and 2002, US leveraged loan issuance fell
  to approximately 1/3 of its 1998 total
• But when the recovery came, it exceeded all
  expectations
• Leveraged loan issuance more than doubled between
  2002 and 2004 and again between 2004 and 2006
• Issuance jumped 20x between 2001 and 2007

Source SP Leveraged Buyout Review
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2. Are There Going to be Major Defaults from
Buyouts Completed within the "Golden Age"?
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Leverage Levels Are at Historical Highs
x
Average Large LBO Leverage Multiples (Debt/EBITDA)
1997
1999
1998
2002
2001
2000
2007
2006
2005
2004
2003
Source SP Leveraged Buyout Review Note
Includes issuers with EBITDA of 50MM or more
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And Credit Ratios Are Depressed
x
(EBITDA Capex) / Cash Interest
2004
2005
2003
1997
2006
2007
1998
1999
2000
2001
2002
Source SP Leveraged Buyout Review
10
Default Rates Have Remained Low Over the Past
Three Years

Percentage of Outstanding Leveraged Loans in
Default or Bankruptcy
Avg. 3.80
Source SP LCD
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And Remain Below Levels Seen During Past Market
Downturns

• Leveraged Loan Default Rates During Recent Market
  Downturns

Source Morgan Stanley
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But the Trading Levels of Many LBO Debt Deals
Suggest Defaults are Likely

• A Spread vs. Treasuries of Above 1,000 Indicates
  Significant Distress

Source Merrill Lynch High Yield Master II Index
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3. What is Going to Happen to All of the Buyout
Debt Still Held by the Major Syndicating Banks?
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A Massive Backlog Remains

• Approximately 200 billion of leveraged loans are
  still sitting on banks balance sheets
• This represents a decrease of only 75 billion
  from last years peak
• Every bank is affected

Sources The Wall Street Journal, Morgan Stanley
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4. What Areas Will PE Firms Pursue to Achieve the
Types of Returns Sought by Their Investors?
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PE Firms Will Invest More in Emerging Markets
11.4

• Emerging Market Fundraising Has Grown
  Exponentially

Emerging Asia (Bn)
CEE/Russia (Bn)
2007
2006
2004
2003
2005
2005
2004
2003
2006
2007
Latin America (Bn)
Middle East Africa (Bn)
2006
2003
2004
2005
2007
2003
2004
2005
2006
2007
Source EMPEA
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PE Firms Will Invest More in Emerging Markets
24.9

• As Has Deal Volume

Emerging Asia (Bn)
CEE/Russia (Bn)
10.5
54.5
1H 2007
2003
2004
2005
2006
2003
2004
2005
2006
1H 2007
Latin America (Bn)
Middle East Africa (Bn)
5.9
32.2
2003
2004
2005
2007
2006
2003
2005
2006
2007
2004
Source Morgan Stanley, Thomson
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PE Firms Will Invest More in Emerging Markets

• A growing percentage of global private equity
  activity is dedicated to Emerging Markets
• In 2001, they accounted for 4.5 of private
  equity fundraising and 3.3 of deal volume
• In 2007, they accounted for 15.9 of fundraising
• In the first half of 2007, they accounted for
  7.0 of global LBO deal volume

Source Morgan Stanley, Thomson
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Private Equity Firms Will Make More Minority
Investments

• Private equity firms have increased their
  commitments to non-control investments

• In the past six months, private equity firms have
  made large minority investments in companies
  including
• Sprint Nextel, NC Numericable, MBIA, Global
  Hyatt, Antero Resources, Galaxy Entertainments,
  MoneyGram International, Legacy Hospital
  Partners, and Bharti Infratel

Source Dealogic
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And They Will Commit More Capital to Distressed
Investments

• Distressed Debt Fundraising Anticipating Debt
  Maturity Schedule

Source Private Equity Analyst, data as of
6/30/07 Fitch Ratings, data as of July 2007
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5. Should Investors in PE Expect Higher or Lower
Rates of Return?
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Top Quartile PE Returns Are Unrivalled
Top Quartile US Buyout Returns
IRR
Top Quartile U.S.
32.1
20.4
Buyout
21.8
28.5
Top Quartile gt2Bn
22.1
18.2
18.4
SP 500
8.7
5.4
20.3
DJIA
7.7
5.7
19.9
NASDAQ
12.2
6.1
0
10
20
30
40
10-year
5-year
1-year
Source Thomson Venture Economics Note PE data
as of 30 June 2007 Bloomberg, market data as of
30 June 2007
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Top Quartile PE Returns Are Unrivalled
7.6
Top Quartile European Buyout Returns
Top Quartile Eu. Buyout
FTSE 100
CAC-40
Source Thomson Venture Economics Note PE data
as of 30 June 2007 Bloomberg, market data as of
30 June 2007
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6. Is Now the Right Time for Investors to Pursue
Private Equity Investments?
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PE Funds Raised During Times of Market Distress
Generally Perform Well

• Private equity investments have produced healthy
  returns during each of the three most recent
  global economic slowdowns

Top Quartile Private Equity IRRs by Vintage
Source Thomson Venture Expert Note IRRs are
cumulative and are calculated from inception to
9/30/07
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7. Will Regulators and Legislators Continue to
Seek Changes in PE Regulation, Oversight and
Taxation?
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The PE Industry Faces Various Legislative and
Regulatory Proposals

• Several countries are considering or have
  introduced changes to the way that private equity
  returns are taxed
• The industry is under pressure to increase
  disclosure and transparency
• In some markets, foreign private equity firms are
  subject to limitations on their investment
  activity

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8. Will Sovereign Wealth Funds Replace PE Firms
as Principal Sources of Capital for
Corporations/Sellers Seeking New Capital?
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PE Firms Pale in Comparison to the Largest
Sovereign Wealth Funds
Top Sovereign Wealth Funds
Source Citigroup
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Sovereign Wealth Fund Investment Activity Has
Increased Dramatically
Sovereign Wealth Fund Deal Volume
Deal Volume (Bn)
of Deals
1,151
2007
2006
1997
1998
1999
2000
2001
2002
2004
2003
2005
Number of Deals
Value of Deals
Sources World Economic Forum, Thomson Financial
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But These Investments Still Represent A Tiny
Proportion of Total MA Activity
Breakdown of Global MA Activity (Bn)
2002
2001
2000
1999
1998
2007
2006
2005
2004
2003
1997
Sources World Economic Forum, Thomson Financial
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Sovereign Wealth Funds and PE Firms Are Forming a
Productive Partnership

• Sovereign wealth funds have purchased substantial
  equity stakes in several alternative asset
  managers
• China Investment Corp. invested 3 billion in
  Blackstone
• Abu Dhabis Mubadala invested 1.4 billion in
  Carlyle
• Dubai International Capital invested 1.3 billion
  in Och-Ziff
• They are among the private equity industrys
  largest individual investors
• In the future, sovereign wealth funds and private
  equity firms are likely to pursue large
  investment opportunities through joint ventures
• Sovereign wealth funds will benefit from PE
  firms deep pools of investment talent and deal
  expertise

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9. Can the PE Industry Improve its Image with the
Public, Media, Governments, Unions, Environmental
and Consumer Groups?
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Private Equitys Image Could be Better
A Backlash Against Private Equity Grumbling by
unions over post-deal job cuts has escalated into
a public outcry Business Week
Gluttons at the Gate Private equity are using
slick new tricks to gorge on corporate assets. A
story of excess Business Week
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10. Is PE's Future Going to Be Better, Bigger,
and Stronger than Before, Or Have We Already Seen
the High-water Mark?
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Its Always Darkest Just Before Dawn

• As before, deal volume will rebound and
  yesterdays records will be left far behind

Global LBO Activity
of Deals
Deal Volume (Bn)
CAGR 31
2007
2006
2005
2004
2003
2002
2001
2000
1999
1998
1997
1996
1995
of Deals
Deal Volume
Source Dealogic
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What I Was Supposed to Talk About Giving
Private Equity a Positive Image Why is there
such Disparity Between the Publics Perception of
the Industry and the Industrys Perception of
Itself, and What can be done to bring these Views
into Alignment
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The Current Situation

• Perception of the Industry outside the Industry
• Destroyed Jobs
• Relocated Facilities Overseas
• Focused Only on Short-Term Profits
• Left Companies in Worse Shape
• Made Too Much Money for PE Professionals
• Insufficient Level of Taxes Paid

• Perception of the Industry within the Industry
• Improved operation of companies
• Prevented job losses created jobs
• Improved Economies
• Created High Returns for Investors/Pension Funds
• Paid Large Amount of Taxes
• Created an Industry

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Why the Disparity in Perceptions?

• Industry Focused for Long Time Principally on
  Returns
• Industry Spent Little Time Explaining its Actions
  to those Outside of Investor Base
• Industry Lacked Data to Support its Views
• No Industry Vehicle for Long Time
• Other Problems of Industry Critics/Convenient and
  Attractive Target

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What Can the Industry Do to Improve Its Image?

• Continue to Produce Hard Data
• Engage Industry Critics in Debate/Discussion
• Consider Factors Other than Just Returns When
  Assessing/Overseeing Investments
• Involve Portfolio Companies Directly in the
  Effort
• Enhance Transparency/Public Focus
• Recognize that Some Changes Can and Should Occur

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Ten Leading Questions Facing the Private Equity
World

• David Rubenstein
• Co-founder Managing Director

February 27, 2008