Tuesday, January 31, 2012

KPMG: Economy Still Impacting Outsourcing Market

31 January, 2012 - A mixed global economic outlook, high levels of volatility, weak consumer demand, and ongoing corporate uncertainty will continue to impact outsourcing demand and consulting growth, according to the KPMG's 4Q11 Sourcing Advisory Pulse Survey. 
The survey, which was of KPMG field advisors and leading global business and IT service providers, also found that organizations engaged in outsourcing are recognizing the need to invest in IT-enabled solutions, but must overhaul business and operating models to fully exploit the technologies’ potential.
 “Buyers are placing great emphasis on investing in IT, but given the economic uncertainty, all efforts undertaken will occur under watchful, cost conscious eyes,” said Stan Lepeak, global research director in KPMG’s Management Consulting Group. “Buyers and providers are smarter, more experienced, and less likely to enter into larger and more risky deals, and evolutionary innovations such as cloud computing and targeted BPO are changing the nature of what constitutes outsourcing.”
 Some 73 percent of advisors and 79 percent of providers cited the weak economy as likely having the biggest impact on buyer businesses and operations, especially in Europe. But there are positive signs for improving economic growth in some western markets, such as North America, and emerging market growth still is expected to be strong: 53 percent of advisors and 45 percent of service providers responded that improving global economic conditions would have the biggest positive impact on their clients’ businesses in 2012, suggesting large scale outsourcing deals will accelerate as the economy improves.

Monday, January 30, 2012

PE HUB: Finding Returns is Difficult

Commentary from PE HUB, 30 January 2012:
 I’ve been working on a theory that private equity fundraising is being hampered by the absence of “the next big LP.” In other words: The industry super-sized after public pensions got involved. Then there was a big expansion to Europe. Then to Asia. Then, most recently, to the Middle East and related sovereign wealth funds. Through it all, PE firms could say to existing LPs: "Decide quick, because there's a big pot of money eager to get into the space.

So I’ve been tossing this out there to various sources, and am getting a mixed reply. Here’s an example of dissent, from a PE placement agent: “There is still a ton of new money coming into the PE market from Asia, especially with new sovereign investors in China and Korea. What is different about this money (as well as the increasing Middle East oil wealth), however, is that it is much less likely to target investing in funds and many of these investors are more focused on separate accounts, co-investment and even in some cases direct investments. In the long run GPs have to wonder if these are customers or competitors.

Saturday, January 28, 2012

Private Equity under Scrutiny: Bain or blessing?

"These charts speak volumes.  You can see private equity is sitting on money that they are pressured to invest.  You've nailed it with the EPN structure by creating an alternative class fund which positions you as a merchant bank, waiting for the right situation.  The private equity funds may say they're opportunistic but the reality is that it's like they have a gun to their head to perform."  Bill Grigsby

The buyout industry is under attack for destroying jobs.  Its returns to investors are the real problem.
January 28, 2012 from The Economist.
IF STEVE SCHWARZMAN thought it was valid in 2010 to compare Barack Obama’s “war” against business to Hitler’s invasion of Poland, what can he be thinking now? Private-equity executives must be hoping the boss of Blackstone will keep his opinions to himself. More bad publicity is the last thing the industry needs. Other Republican presidential candidates are competing to see who can say the most damning thing about Mitt Romney’s career at Bain Capital. Newt Gingrich’s supporters have even made a sort of horror movie about what happens when private-equity firms like Bain Capital get their hands on otherwise healthy companies.
The buy-out bit of the industry, which buys mature companies, fixes them up and sells them on, is the one on trial (few have a bad word for venture capital, which invests in start-ups). It is charged with destroying the jobs of ordinary people while enriching the likes of Mr Romney.
Examples of dud deals are not hard to come by. The tax code’s treatment of debt (with interest on debt payments being tax-deductible) and private equity’s thirst for profits have at times driven the industry to saddle companies with too much debt. Between 2004 and 2011 private-equity firms heaped more debt on their companies so they could take out a staggering $188 billion in dividends for themselves, according to Standard & Poor’s Leveraged Commentary & Data, which tracks the industry.
 chart 1
But private equity isn’t employment’s grim reaper. Buy-out firms usually set their sights on companies that they can improve, which means they may buy weaker or more bloated ones in the first place. A recent NBER working paper looked at employment after 3,200 leveraged buy-outs in America. It found that private-equity ownership resulted in both more rapid job destruction and faster job creation than other forms of ownership. Two years after a buy-out, employment declines by 3% on average; if acquisitions, divestitures and new sites are included the losses are only 1% of initial employment. Other research has found that wages do not rise as quickly at private-equity-owned firms, probably because buy-out firms try to control costs after a takeover. But wages also don’t plummet, which may be why unions that used to oppose buy-outs have moderated their criticisms.
In any case, it is not the mission of buy-out firms to create jobs. Their mandate is to produce higher risk-adjusted returns, and this is where private-equity firms should be judged more harshly. The industry has long boasted about its earth-shattering performance. Investors, and public-pension funds in particular, have piled into the asset class. But the bulk of investors’ capital has gone into funds that were raised when asset prices were at peak levels (see chart 1). Although fears of a bloodbath among bubble-era buy-outs have not yet been realised, returns for most of these funds are going to be middling at best.
 chart 2
Nor is there conclusive evidence that private equity consistently outperforms public companies, although certain high-performing firms undoubtedly do. A recent attempt to analyse private-equity performance, by Robert Harris of the University of Virginia’s Darden School, Tim Jenkinson of Oxford University’s Saïd Business School and Steven Kaplan of the University of Chicago’s Booth School of Business, concludes that it is “very likely” that private equity outperforms the S&P 500 (after fees). But the outcome looks different depending on which database is used. These vary wildly (see chart 2), and none has returns for all funds. The study emphasises a new data set, which could make things look rosier because the worst-performing funds may not be sufficiently represented.
The bigger issue
There is also a question about how private-equity firms calculate their returns. The internal rate of return (IRR) is the usual measure. But according to a 2010 study by Peter Morris, a former banker, entitled “Private Equity, Public Loss?”, it is rare for two firms to calculate IRR in the same way. This can complicate any attempt to compare funds. IRRs can also overstate the actual returns investors realised, according to Ludovic Phalippou at Amsterdam Business School, since the measure implies that the return was achieved on all the investor’s cash, even if some of it was given back early and reinvested at a lower rate.
The S&P 500 may not even be a fair benchmark for private-equity firms, says Mr Phalippou, since most buy-out firms purchase midsized companies, which have performed better than the big firms included in the S&P 500. An index of mid-cap stocks could offer a more accurate comparison, but also a higher hurdle for private-equity firms to jump.
Why would investors put money with private-equity managers who aren’t that good? It could be that investors herd mindlessly into asset classes. But some of it may also reflect the way the industry manipulates data. “Every private-equity firm you talk to is first-quartile,” quips Gordon Fyfe, the boss of PSP Investments, a C$58 billion ($58 billion) Canadian pension fund.
Oliver Gottschalg of HEC School of Management in Paris looked at 500 funds, and 66% of them could claim to be in the top quartile depending on what “vintage year” they said their fund was. The vintage year is supposed to be when the fund has its final “close” and stops fund-raising. But some firms may decide to use the year they started raising the fund or had their first “soft” close (when a fund is no longer officially open to new money), if it allows them a more favourable benchmark.
If investors can work out a way to place their money with funds that are actually in the top quartile, it is probably worth the fees and the extra risk of investing in this illiquid, leveraged asset class. But that is a big if. David Swensen, the man who runs Yale’s $19.4 billion endowment and a noted proponent of alternative investments, has written that “in the absence of truly superior fund-selection skills (or extraordinary luck), investors should stay far, far away from private-equity investments.”
Abuzz about fees
Buy-out executives have always claimed their interests are perfectly aligned with those of their investors, since they can only eat if their investors do. But that has changed as private-equity firms have morphed from small outfits into behemoths managing billions of dollars. Private-equity firms usually charge a 2% annual fee to manage investors’ capital and then take 20% of the profits. Big firms can now support themselves just from management fees. A study by Andrew Metrick at Yale School of Management and Ayako Yasuda at the University of California, Davis finds that private-equity firms now get around two-thirds of their revenues from fixed fees, regardless of performance.
 chart 3
If all that wasn’t bad enough for investors, the prospects for future returns look dim. Higher debt has accounted for as much as 50% of private equity’s returns in the past, according to a 2011 study co-written by Viral Acharya of New York University’s Stern School of Business. But banks are not lending as much as they did five years ago, increasing the amount of equity that firms are having to stump up (see chart 3). That will cap returns. “Employees are going to make less money, and firms are going to make less money. Returns are going to be much more mundane,” is the gloomy prediction of the boss of one of the largest private-equity firms.
Prices have also remained painfully high. Last year the average purchase-price multiple for firms bought by private equity was 8.4 times earnings before interest, tax, depreciation and amortisation, higher than it was in 2006. That’s because the industry is sitting on $370 billion in unused funds, or “dry powder”, that firms need to spend soon or risk giving back to investors, which means there is fierce competition for deals. Many transactions are between private-equity firms, which does little good to investors who have placed money with both the seller and the buyer.
With the option of financial engineering basically gone, private-equity firms have no choice but to improve the businesses they buy. Every private-equity firm boasts about its “operational” skills but sceptics question whether private-equity executives are that good at running companies. A senior adviser at a big buy-out firm and former boss of a company that was bought by private equity says he disagrees that buy-out executives are good managers of businesses: “They’re even less in touch with the real world than public-company managers. They’re a group of very clever, very analytical people paid lots of money whose general feel for the businesses is pretty poor.” Their edge, he says, comes from having a fixed investment term, which helps focus managers’ minds.
 With the landscape bleaker than it was, many private-equity firms are reinventing themselves. Most buy-out firms now prefer the fluffy title of “alternative asset manager”. They have started to do more “growth equity” deals, taking minority stakes in companies and using less debt. This has been their strategy in emerging markets like China, where control and highly leveraged deals are not as welcome, but now the approach is also increasingly being used in the West. Big American firms like KKR, Carlyle and Blackstone have all expanded or started other units focused on things like property, hedge funds and distressed debt.
Many private-equity firms will quietly fade away, although Boston Consulting Group’s infamous prediction in 2008 that 20-40% of the 100 largest buy-out firms would go extinct has not yet come true. That is probably because private-equity firms take a long time to die. There are 827 buy-out firms globally, according to Preqin, a research firm. They will not all be able to raise another fund. European private-equity firms are particularly vulnerable because they have not diversified as much as their American competitors.
But Mr Romney’s candidacy will ensure that American firms feel more political heat. Executives’ special tax treatment, under which their profits are taxed as capital gains rather than income, will almost certainly go. The limelight has not yet scared off the 236 buy-out funds that are in the market trying to raise another $172 billion. But it is not as much fun as it was. “Back in 2005 fund-raising was like having a velvet carpet with a rope,” says one buy-out boss. “You had a bouncer and only let the prettiest people in. Now it’s buy one, get one free, and free entrance before 11.”

Thursday, January 26, 2012

Hedge fund performance for 2011 almost as bad as 2008

26 January 2012, EUROPE – The broad hedge fund industry had a very poor year in 2011, according to figures just in from the EDHEC-Risk Institute.  Only one of the five strategy groups that it tracks recorded positive performance over the year: equity market neutral, which managed to finish up 0.88%.
That comes over 12 months in which the S&P 500 returned 2.11%, thanks to a late spurt in December, while bonds, in the form of the Lehman Global index, finished up almost 10%.  The most popular hedge fund strategy, long/short equity, was also the worst performer, according to EDHEC-Risk.  It finished the year down 5.97% – underperforming US equities by more than 8 percentage points.
Other hedge fund indices report similar woes. The HFN Hedge Fund Aggregate index finished 2011 down 4.9%, and HFR's HFRX Aggregate index lost 3.98%. The latter's index that equal-weights each strategy lost more than 6%.  HFR noted that the decline for 2011 marked only the third calendar-year decline since it started tracking the industry in 1990, but it is also the second decline in the last four years.
The results lead some to question whether 2011 was actually a worse year for the industry than 2008.
Paul Simpson, head of systematic investments and portfolio manager for statistical arbitrage strategies at Old Mutual Asset Managers, said: "In 2008, hedge funds lost a lot of money – but at least it was only half what you'd have lost in the equity market.  In 2011, they didn't lose anything like as much, but that was in a year when equities were basically flat."  Simpson conceded, however, that the distribution of outcomes in 2011 was among the biggest he had ever seen.  "Even if you look within one strategy like global macro, the difference between the best and worst performer is absolutely huge for this year," he said.  "In both those years, the successful strategies tend to be systematic and short-term oriented – equity market neutral, shorter-term CTAs and statistical arbitrage."  While that has been true of equity market neutral in 2011, and was certainly true of Simpson's own Global Statistical Arbitrage fund, which finished the year up around 5%, unlike 2008, it seems to have been a trying year for managed futures (CTAs).
EDHEC-Risk has the strategy down 3.47%, HFN reports a 3.93% loss, and HFR's HFRX Macro/CTA index was down 4.88%.  Nabil Chouk, a research engineer at the EDHEC-Risk Institute, wrote: "With no clear trend in the short term and a year characterised by sharp reversals in the markets, the CTA Global strategy (+0.29%) was barely positive for the month [of December] while posting a moderate yearly loss."
It was also yet another bad year for funds of funds – which are supposed either to select the best funds or diversify risk exposures.  The HFRI Funds of Funds Composite index lost 5.51% – worse than the 4.83% loss posted by the broad investible HFRI Fund Weighted Composite index – and EDHEC-Risk's index was down 5.86%.  "The Fund-of-Fund strategy did not demonstrate any diversification effect, exhibiting a performance consistent with that of the worst strategy (Long/Short Equity)," wrote Chouk.
Despite all this, HFR reports that investors allocated $70bn (€54bn) of net new capital to hedge funds during the year.  And it wasn't all bad for every strategy. Positive returns accrued to short sellers, volatility funds, credit arbitrageurs and some distressed and structured credit managers, according to HFR's range of HFRX indices.
-Martin Steward

Tuesday, January 3, 2012

OpenTable's rise and fall is a cautionary tale

This is why we are hyper pragmatic about predictable results to all of our stakeholders vs gambling on the results of the stock market. Aivars Lode
Nothing lasts forever, but the speculative momentum that can drive up tech stocks is especially fleeting.  Just ask OpenTable (OPEN).

January 3, 2012: 8:50 AM ET Kevin Kelleher, contributor FORTUNE --

OpenTable is a reminder for investors eager for a piece of a hot tech IPO: It doesn't take a stock bubble on the scale of the 90s dot-com mania for investors to lose money on a supposedly hot Internet stock.
The company that made online restaurant reservations a thriving business went public in May 2009 at $20 a share, in the depths of the worst U.S. recession in decades. But investors welcomed the stock and its promise of profit growth, and the stock rose modestly for the next several months.   For a couple of years, OpenTable delivered on that promise, beating the Street's earnings estimates by a wide margin quarter after quarter. OpenTable went from being an IPO that proved Internet stock offerings could thrive in a bear market to being a favorite of momentum investors – until the stock hit $118 in April. Along the way, it whetted investor appetite for other web IPOs like Pandora (P), LinkedIn (LNKD) and Zynga (ZNGA).   
In the past eight months, however, the stock has plunged, giving up 67% of its value. OpenTable trades around $39 a share. Its market cap has fallen to $930 million, not far from its $700 million market cap when it went public.  Usually, when a stock loses two-thirds of its value in a matter of months, it's a sign of crisis – a scandal, an incompetent management or some serious reversal of fortune. But none of these apply to OpenTable. The company is expected to see revenue grow 40% this year and earnings rise to $1.20 a share from 2010's 87 cents. OpenTable is still a growth company with a 17% operating margin.
So why has the stock crashed? There are two basic reasons that, taken together, offer a cautionary tale for investors eager to jump into the IPOs of hot web 2.0 enteprises like Zynga, Groupon (GRPN) and Facebook. 
The first reason has to do with that herd mentality of momentum investors. It can turn on a dime, and the logic used to justify a stock's irrational rise can become just as irrational when the stock is sinking. OpenTable's value was simply without justification back in April, when its forward PE was above 100.  Today, OpenTable trades at 34 times its estimated 2011 earnings, or more than twice as high as the S&P 500. Growth stocks often have a higher valuation than the market average, but analysts are expecting OpenTable's revenue growth rate to slow to 22% for 2012. That's about the same as Google's (GOOG) projected growth rate, and Google is trading at around 17 times its estimated earnings.
And that brings us to the second reason for OpenTable's decline: The company's business is beginning to face some headwinds. While profits are likely to keep growing for a while, the growth will come at a much slower rate. But OpenTable's core markets like San Francisco are becoming saturated while the company faces rising competition in newer markets abroad.   In fact, overseas competitors are making headway in OpenTable's home turf. Eveve, a Europe-based online-reservation company, said recently that 30,000 restaurant bookings in the Twin Cities switched from OpenTable to its service in a four-month period. Livebookings, another European rival expanding into the U.S., offers restaurants a free reservation service, along with premium features such as email marketing and analytics.  OpenTable has 24,000 restaurants using its reservation system, compared to Livebooking's 9,000. But the lower-priced competition could force the company to cut its fees, which could pinch profit margins. The company's operating margin is already facing pressure, declining to 16.9% in the last quarter from 18.6% in the same quarter a year earlier.
OpenTable is facing these new challenges without the help of its respected CEO Jeff Jordan. When the company announced in May that Jordan, a veteran of eBay (EBAY) and PayPal, left to become a venture capitalist at Andreessen Horowitz, OpenTable's stock fell 15%, beginning its eight-month slide. The stock fell 4% on Dec. 20 when Jordan left the company's board.  Under its new CEO - Matthew Roberts, who previously served as CFO for six years – OpenTable's image has gone from a sure-fire stock to a company in disarray. But neither view is accurate. OpenTable is still a well-run company in a growing market, albeit one that is facing the tougher competition that reaches most thriving markets given enough time.
Some OpenTable bears have pointed to a decline in the number of seated diners in the third quarter (23.6 million) from the number in the second quarter (23.8 million). But this argument is misleading: The number of seated diners in the third quarter has been flat or down from the second quarter for the past four years. It's a seasonally slow quarter. For the first nine months of 2011, seated diners are up 51% to 70 million. 
Given that downward momentum – along with a PE that's still relatively rich and the threat of competition – OpenTable will likely remain volatile. But its rise and fall offers a warning to anyone too eager for a piece of a hot IPO like Facebook: It doesn't take a stock bubble on the scale of the 90s dot-com mania for investors to lose money on a supposedly hot Internet stock.

Sunday, January 1, 2012

Top 3 Reasons Companies will Outsource in 2012

January 1, 2012

As the competition vying for each buyer gets stronger and stronger, the direction for 2012 is Yield in order to fund strategic agility and speed to market.
  "Do what you do best and outsource the rest!" - Tom Peters, Best-Selling Author and Business Strategist 
Strategic AgilityResponding to market changes makes the difference between innovators and leaders in the industry, or stagnation and dying. A recent example of strategic agility is Google Plus. As large as Google is, they were still able to quickly recover from the disaster which was Google Buzz, and come out with a much more robust effort in the form of Google Plus. 
The demand for strategic agility may be regulatory, competitive, customer, or market driven and can vary across the geography of a company. During a recent survey conducted by the Inavero Institute, 74% of respondents reported that in order to keep up with increasing business challenges, organizations must be highly adept at comprising the right skill set with the correct need. Outsourcing allows for the rapid scaling up or down of teams without the need to slow overall organizational momentum, and can, in fact, substantially increase it.
SpeedAccording to a 2011 study by researchers at Duke University and the University of Massachusetts, market expansion (growth, access to new markets, global strategy) and speed to market are the strongest drivers moving organizations to outsource key areas in 2012. Consumers and businesses expect monthly, if not weekly, feature updates on technology. Waiting for the large yearly upgrade can be the difference between MySpace and Facebook.
Yield: Clearly, the bottom-line numbers matter, companies have increasingly begun to focus on outsourcing as a competitive strategy by means of vendor partnerships, in addition to a cost savings tactic. Thomson Reuters’ projections show a potential savings of nearly 45% in outsourcing for 2012, not only in staff cost reduction but also in the areas of technology, regulation, and processing. Ultimately, when the decision to outsource is made, two fundamental questions need to be asked: “which activities should we outsource, and which tasks need to remain in house”. Outsourcing allows you to actually focus on your mission statement and not the non-revenue generating activities that can take an inordinate amount of your valuable time.
The single most effective thing a company can do to quickly improve in these areas is to partner with a service provider to outsource non-core aspects of their business. We live in a more competitive market than any previous time in business. Only lean, focused, purposeful companies will prosper.