Triago Q&A – July 2020

How has the single-asset primary market changed since the start of the Covid-19 crisis?

CHRIS SULLIVAN:

The normal practice of visiting companies for a management presentation and facilities tour stopped as of mid-March and only started up again in June. We didn’t close any investments during initial lockdown, but we continued due diligence on a couple of potential investments that we expect to close on this quarter. An increasing number of investors are – like us – relaunching company visits, so there should be steadily increasing activity in the market in the next two to three months. This holds true even in the US, where we are seeing flare-ups and a return to partial lockdowns. Going forward, we’ll do more initial work remotely and online – that’s one of the enduring changes introduced by the crisis.

MATT SWAIN:

Yes, the most successful investors are no longer content to just wait for meetings – they do much more homework ahead of time remotely, including initial introductions to management. This gives them an edge over other capital providers when it comes to winning deals.

The results of a survey we conducted during the crisis show a significant uptick in interest in single-asset primaries among investors. What accounts for this?

CHRIS SULLIVAN:

The major advantage of single-asset primaries is the ability to control the investment and influence management teams. Moreover, at times of economic disruption and crisis, investors often feel more comfortable about the ability of investments to successfully weather difficulties if they can speak with managements and actively help guide companies, usually as board members. This accounts for the growing appeal of single-asset primaries compared to both public equity investments and to blind-pool private equity fund investing.

MATT SWAIN:

I fully agree – being able to zero-in on a particular investment that you can influence is even more valuable when whole swathes of the global economy are being wiped out by the impact of Covid-19.

What are the characteristics of good single-asset primary deals?

CHRIS SULLIVAN:

We always look for strong management teams, recurring cash flows and businesses with high barriers to entry. We tend to favor non-cyclical businesses. But as a family office with no investment timeline and no mandated periods for returning capital, we have the flexibility to ride out any cycle and we will buy cyclical businesses if they’re attractive enough. As part of our investment calculation, we consider where we are in the cycle and whether it’s likely to take three-to-five years or considerably longer for investments to pay off. Unlike most private equity funds, if the return potential is there over considerably longer periods than five years, we’ll still invest. Private equity funds typically can’t do that because they don’t have that freedom from liquidity constraints that I just mentioned.

MATT SWAIN:

During the current crisis, in the single-asset primary space in particular, recurring cash flow is king. Businesses with exceptionally predictable cash flows like grocery stores, gas stations and recycling plants – viewed as hum-drum, slow growth businesses’ prior to the crisis – now attract significant numbers of buyers.

How does the appeal of these deals differ from co-investments or un-intermediated direct investments?

CHRIS SULLIVAN:

We don’t invest in funds or do co-investment because it doesn’t give us direct control – what I described earlier as one of the principal advantages of single-asset primaries. There’s really no difference between the appeal of a single-asset primary and an un-intermediated direct investment. There’s only so much territory we can cover on our own and so any extra help sourcing deals is absolutely welcome. We especially appreciate when firms like Triago bring us deal flow. These firms are very aware of what we like and what we don’t like in a potential investment. We know we aren’t wasting our time when we look at what they’ve brought us.

MATT SWAIN:

The attractiveness of direct investments of all kinds really is a question of resources. Groups like Landon have the expertise and manpower to do the full range of direct investments. Knowing what deals Landon likes and what’s made them successful is probably why Chris keeps taking Triago’s calls. Some groups with fewer resources may actually favor intermediated deals over un-intermediated deals – especially if the third party proposing the investment knows the potential buyer well. Leveraging the sourcing and due diligence expertise of a trusted partner can make direct investing more efficient and hence more realistic for limited partners.

How active do you expect the market to be this year?

CHRIS SULLIVAN:

The biggest factor affecting market activity is the reluctance to sell businesses during the current crisis. Pre-Covid-19 purchase-price multiples were extremely high and liquidity was available in record amounts. It was a really good time to be selling businesses. Today, apart from distress situations – and their numbers are likely to grow as companies with declining cash flows are forced to deleverage later this year and in 2021 – most folks are not willing to sell businesses. That’s because of the enormous uncertainty regarding future revenues and profits. Even when it is possible to make reasonable assumptions about what a company’s revenues and cash flow will look like in the post-Covid-19 crisis period, investors will discount it. In general, people aren’t willing to sell unless they have to. That’s something we think will lead to some very attractive deals this year and in 2021.

MATT SWAIN:

I’d note that we are seeing some exceptions to the general trend of discounting that Chris rightly singles out. Firms with exceptionally stable revenue and profit like those that I mentioned earlier and in areas like essential retail or personal protective equipment are actually seeing their potential purchase price multiple expand from say four of five times cash flow to seven or eight times. This is generating deal making, albeit in highly focused areas.