DURING the 2009 credit crunch, large parts of the private equity market ground to a halt. There was a marked reduction in the number of new funds started and trading of existing holdings fell significantly.

At the height of the boom, private equity buyers were able to significantly outbid trade buyers, due to the benefits of financial leverage outweighing the operational synergies available to corporates. However, as the ability to leverage companies reduced, the advantage that private equity had over trade buyers eroded, resulting in financially sound trade buyers being able to compete on a level playing field.

Many of the houses and financiers that made highly leveraged investments in 2006-08 have faced problems, and as a result, there has been a reduction in investment levels and commitments, alongside a realisation of existing assets.

However, a more positive general economic outlook, an increase in supply of investment prospects, more sensible price expectations, and most fundamentally, returning liquidity to the debt markets are now combining to facilitate a resumption in private equity activity – albeit only for those that are in a strong enough position to take advantage.

The debt market appears to be thawing and the funding situation is improving, as banks show a growing ability to support transactions. Improved sentiment has resulted in loan volume increases continuing through the first quarter of 2010 and, whilst leverage multiples appear to be slowly creeping up, it is apparent that increased leverage still seems reserved for only the most sought- after assets. In addition, corporates are now placing greater focus on their core business, resulting in disposals of numerous high-quality non-core assets.

As the market continues to stabilise, and financing concerns continue to ease, the gradual uptick in private equity activity is likely to continue, but naturally inhibited by wider economic and regulatory uncertainties.

Banks have shown they are slowly regaining their commercial appetite and balance sheet capacity to lend. However, until they achieve greater comfort around credit and economic fundamentals, caution will remain the watchword.

Exit strategies are set to change. Lower leveraging appears likely to remain with us and the practice of 'flipping' a business after a year or so at a higher multiple into a secondary or tertiary transaction will be a rare occurrence.

From a long-term value creation perspective this is a welcome shift, however, markedly longer holding periods are unlikely to be a permanent feature of a new private equity model.

The difficultly facing private equity houses is that, if exits slip from five to eight years, the value of the portfolio company must increase dramatically to generate the internal rate of return that the private equity fund originally required. Nevertheless, for the time being at least, it is encouraging to see private equity demonstrating greater engagement in genuine operational value enhancement.

:: Mark Webster is assurance partner at PwC Newcastle, tel: 0191 269 4011 or email: mark.webster@uk.pwc.com

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