The Future of Private Equity in 2023

The private equity market is ever-changing, making it hard to know what will happen in the future—will valuations go down with rising inflation? Are there residual effects being felt from COVID? By looking at current trends and the opinions of experts, we can get a good sense of what the private equity market may be like in 2023.

From what we see now and the conversations being held, alternative assets will continue to grow as a major trend in the investment market. In recent years, alternative assets like private equity, real estate, and hedge funds have become more popular as investors look for new ways to diversify their portfolios and make more money beyond the run-of-the-mill S&P 500 but don’t have the time commitment or expertise to begin angel investing. This trend is likely to keep pushing forward in 2023, as long as investors keep looking for alternative assets as a way to push their return on invested capital higher and their Sharpe ratio as close to 3 as possible.

Sustainable investing is becoming more popular after the start of ESG roughly a decade prior, which is another characteristic to keep an eye on in the private equity market. Sustainable investing has grown so much as the average citizen demands more care from their planet, and typically, vanity metrics and ESG mandates are enough to satisfy these demands, although there is controversy surrounding the practice of ESG focus and whether or not there are truly good intentions behind the movement. Sustainable investing overall will continue to be a focal point as more companies become more conscious and want to be ahead of the curve when it comes to government mandates and sustainability requirements for corporations.

In addition to sustainability, macroeconomic factors such as interest rates and economic growth will also have an effect on the private equity market. In the past few years, interest rates have been at all-time lows. This has made it simpler for private equity firms to borrow and invest in portfolio companies, which also makes sense as to why dry powder has been at all-time highs. However, as interest rates increase, investors are being tighter with the money they’ve raised, wanting to ensure they have the best deal possible before committing seven figures to it. 

Another thing to keep an eye on in the private equity market is the frequency with which technology is being harnessed within portfolio companies and deal analyses. Private equity firms are starting to use more advanced technologies like artificial intelligence and machine learning to find potential investment opportunities and make better decisions about how likely an investment is to succeed. This trend is likely to keep going in 2023 as private equity firms look for ways to stay ahead of the competition and get better returns on their investments (GPT-3 anyone?)

In 2023, deal activity will be another important aspect of the private equity market. In the previous few years, the number of private equity deals has grown considerably, and in 2021, a record number of deals will be made (again, contributing to the cheap price of debt, the record bull run, and economic prosperity). The potential for saturation within dry powder will begin to fall slightly. In the past few years, everybody and their mother were private investors (specifically SaaS, chasing the astronomical multiples); now, the bottom of the barrel investors (return-wise) have either disbanded or joined other firms, leaving a healthier deal flow to the most talented.

Valuations in 2023 will also be critical to be attentive towards within the private equity and venture capital markets. When enterprise values are high, the return potential of firms is drastically lowered (meaning more stringent due diligence processes). On the other hand, when valuations are low (buyer’s market), private equity firms are able to make investments at a discount, which leaves an impressive amount of breathing room for a healthy IRR. However, we see the days of simply buying a company, holding it for 5 years, and making a 3x multiple on invested capital long gone, which is why the rise in key operating executive hires has increased so dramatically.

Exit activity is likely to stay high in 2023, since valuations were at all-time highs prior to now, we are certain the total exit value will not match up, but there will still be buyers to support the sellers of these portfolio companies, and we do not foresee a massive change beyond a small reduction in prices. 

Lastly, regulations could have an effect on the private equity market in 2023. There are many regulations about how the private equity market operates, and changes to these rules can have a big effect on the market—and luckily for them, it is always a hot topic politically as well (election years always make private equity investors sweat, but as we all know, most of it is just fluff to get votes). However, after high-profile cases like the FTX scandal or Theranos are brought to court, tightening regulations around due diligence, founder control, and oversight could be a very real topic to consider.

Overall, the private equity market will remain active in 2023. Many things will shape the market and affect how well private equity firms can invest and make money, but these are only small inputs that may affect surface-level aspects, while the core functionality will always remain the same (barring a global disaster). Private equity firms and investors will do well in these complex and always-changing markets by keeping an ear to the ground and recognizing what rifts can cause meaningful change for their own firms and what is just background noise.