Private equity in the 1990s - Wikipedia

Private equity in the 1990s relates to one of the major periods in the history of private equity and venture capital. Within the broader private equity industry, two distinct sub-industries, leveraged buyouts and venture capital, experienced growth along parallel although interrelated tracks.

The development of the private equity and venture capital asset classes has occurred through a series of boom and bust cycles since the middle of the 20th century. Private equity emerged in the 1990s out of the remnants of the savings and loan crisis, insider trading scandals, the real estate market collapse and the recession of the early 1990s which had culminated in the collapse of Drexel Burnham Lambert and had caused the shutdown of the high-yield debt market. This period saw the emergence of more institutionalized private equity firms, ultimately culminating in the Dot-com bubble of the late 1990s.

LBO bust (1990 to 1992)

By the end of the 1980s the excesses of the leveraged buyout (LBO) market were beginning to show, with the bankruptcy of several large buyouts, including Robert Campeau's 1988 buyout of Federated Department Stores; the 1986 buyout of the Revco drug stores; Walter Industries; FEB Trucking and Eaton Leonard. At the time, the RJR Nabisco deal was showing signs of strain, leading to a recapitalization, in 1990, that included the contribution of $1.7 billion of new equity from KKR. In response to the threat of unwelcome LBOs, some companies adopted techniques such as the so-called poison pill to protect them against hostile takeovers by effectively self-destructing the company if it were to be taken over.

The collapse of Drexel Burnham Lambert

Drexel Burnham Lambert was the investment bank most responsible for the boom in private equity during the 1980s, due to its leadership in the issuance of high-yield debt. On May 12, 1986, Dennis Levine was charged with insider trading. Levine pleaded guilty to four felonies, and implicated one of his recent partners, Ivan Boesky. Largely based on information Boesky promised to provide about his dealings with Michael Milken, the Securities and Exchange Commission (SEC) initiated an investigation of Drexel on November 17. Two days later, Rudy Giuliani launched his own investigation.

For two years, Drexel consistently denied any wrongdoing, claiming that the criminal and SEC cases were based almost entirely on the statements of an admitted felon. The SEC sued Drexel in September 1988 for insider trading, stock manipulation, defrauding its clients and stock parking (buying stocks for the benefit of another). Drexel CEO Fred Joseph said that he had been told that if Drexel were indicted under RICO, it would only survive a month at most.

Minutes prior to being indicted, Drexel reached an agreement with the government in which it pleaded nolo contendere (no contest) to six felonies – three counts of stock parking and three counts of stock manipulation. It also agreed to pay a fine of $650 million – at the time, the largest fine ever levied under securities laws.

S&L and the shutdown of the Junk Bond Market

In the 1980s, the boom in private equity transactions, specifically leveraged buyouts, was driven by the availability of financing, particularly high-yield debt, also known as "junk bonds". The collapse of the high yield market in 1989 and 1990 would signal the end of the LBO boom. At that time, many market observers were pronouncing the junk bond market “finished.” This collapse would be due largely to three factors:

Despite the adverse market conditions, several of the largest private equity firms were founded in this period including:

The second private equity boom and the origins of modern private equity

Beginning roughly in 1992, three years after the RJR Nabisco buyout, the private equity industry once again experienced a tremendous boom, both in venture capital and leveraged buyouts with the emergence of brand name firms managing multibillion-dollar sized funds. After declining from 1990 through 1992, the private equity industry began to increase, raising approximately $20.8 billion of investor commitments in 1992 and reaching a high-water mark in 2000 of $305.7 billion.

Resurgence of leveraged buyouts

Private equity in the 1980s was a controversial topic, commonly associated with corporate raids, hostile takeovers, and outsized profits to investors. As private equity reemerged in the 1990s it began to earn a new degree of legitimacy and respectability. According to The Economist, “Big companies that would once have turned up their noses at an approach from a private-equity firm are now pleased to do business with them.” Additionally, private equity firms began to make investments in capital expenditures.

The Thomas H. Lee Partners acquisition of Snapple Beverages, in 1992, is often described as the deal that marked the resurrection of the leveraged buyout after several dormant years. Only eight months after buying the company, Lee took Snapple public and in 1994, only two years after the original acquisition, Lee sold the company to Quaker Oats for $1.7 billion.

The following year, David Bonderman and James Coulter completed a buyout of Continental Airlines in 1993, through their nascent Texas Pacific Group. TPG was virtually alone in its conviction that there was an investment opportunity with the airline.

Among the most notable buyouts of the mid-to-late 1990s included:

The venture capital boom and the Internet Bubble (1995 to 2000)

The late 1990s were a boom time for venture capital, as firms on Sand Hill Road in Menlo Park and Silicon Valley benefited from a huge surge of interest in the nascent Internet and other computer technologies. Initial public offerings of stock for technology and other growth companies were in abundance and venture firms were reaping large windfalls, including:

The bursting of the Internet Bubble and the private equity crash (2000 to 2003)

The technology-heavy NASDAQ Composite index peaked at 5,048 in March 2000, reflecting the high point of the dot-com bubble. The Nasdaq crash and technology slump began in March 2000, causing many venture firms to write-off their large proportions of their investments. By mid-2003, the venture capital industry had shriveled to about half its 2001 capacity. However, the market revival would still take place due to deals like eBay's purchase of Skype, which helped to awaken the venture capital environment.