Core-plus investment: Expectations game

Of KKR’s $205.7 billion in assets as of June, $11.8 billion comprised balance sheet investments, chiefly “core” investments that are stable and cash-generative in nature. They don’t fit the firm’s private equity funds because the holding periods are deemed too long; and the expected returns are deemed too low.

Two Australia-based assets sit in this portfolio: GenesisCare, an operator of cancer and cardiac services clinics that KKR backed in 2018, two years after its regional private equity fund exited the business to a Chinese strategic player; and a portfolio of Asian assets – the most significant of which is Australian biscuit brand Arnott’s – that were carved out from Campbell Soup for $2.2 billion. 

The latter deal was announced last month after KKR outlasted rival bidder Pacific Equity Partners (PEP). It is said to have paid 13.5x EBITDA for a relatively mature business that includes the iconic Tim Tam brand and other snacks in Australia as well as assorted packaged food and beverage assets and manufacturing facilities across the region.

To some industry participants, it is yet further evidence of how the sheer volume of capital entering private markets globally is forcing investors to accept lower returns – a phenomenon exacerbated by the low interest rate environment. A more nuanced, but not unrelated, observation is that Arnott’s deal underlines the growing power of alternative pools of capital in private equity that operate according to different timelines and return expectations.

In Australia, this is most readily reflected in the growing popularity of core-plus infrastructure assets, ranging from land title registries to data centers to smart metering businesses. PEP has already responded to this trend by launching a secure assets fund, which invests in companies that generate annuity income but also offer opportunities for traditional private equity-style operational improvement. Its first deal was the acquisition of Origin Energy’s Acumen smart meters unit. 

The private equity firm has previously backed companies that generate consistent infrastructure-style yield and offer additional upside through an active management approach, but it was also unable to act on other opportunities, largely due to cost of capital issues. While PEP might have found it impossible to make a competitive bid and deliver a PE-style return, infrastructure funds had no such problem.

It might be argued that an innate comfort with the stability of demand and real assets exposure of hospital businesses was instrumental in Brookfield Asset Management’s successful pursuit of Healthscope, even though the asset is now held in a private equity fund. Indeed, one Australia-based buyout manager claims to have received inbound inquiries regarding an aged care portfolio company from investors that perceive it as a core plus healthcare asset.

However, the same manager expresses concerns that investors are not pricing risk properly in Australia and overpaying for assets, using core plus – or “PE-lite” as he describes it – as justification. “People stretched from toll roads to power plants, and now it’s low-risk assets they decide to call infrastructure and price at 7-9% yields,” the manager says. “But these are still operating assets.”

The key point is how GPs get the risk-return balance right when addressing assets that might be priced as low risk but still present operational challenges. While the answer will vary based on the remits of different capital pools, Arnott’s is not a smart metering provider with contracted revenues. KKR put it in the core portfolio because it regards the business as stable and a long-term growth story. But is there enough upside to offset multiple contraction?

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• Topics
• Australasia
• GPs
• Buyouts
• Infrastructure
• Consumer
• Australia
• KKR