Goldman Sachs Cutting Private Equity Future in Half

NEW YORK ( TheStreet) -- Goldman Sachs ( GS) is bracing for a revival in corporate mergers and the underwriting of bonds and stock, but the investment bank has better things to do with its precious capital than maintain its big presence in the private equity industry.

Richard Friedman, the head of Goldman's merchant banking division, said Thursday at the Dow Jones Private Equity Analyst conference that Wall Street titan will cut likely cut the size of its private equity investments by about 50% in coming years.

Prior to the financial crisis, Goldman Sachs raised a $20.7 billion fund, one of the biggest in industry. But Friedman said the fund is fully invested and already returning money to investors. Meanwhile the bank's private equity bets are expected to settle at half of their pre-crisis size.

That's in stark contrast to other private equity shops like Apollo, Blackstone and Carlyle that, while also beginning to return investor money on old funds, are also busy raising for new funds in excess of $10 billion.

Goldman, however, is sitting this round out, with Friedman adding that the bank is simply pitching buyouts to its clients on a "deal by deal basis," such as a recent $1.1 billion buyout of Interline Brands. In past years, Goldman was front and center role in taking a piece of some of the largest pre-bust buyouts like the takeover of Kinder Morgan ( KMI), TXU, Nextel and Biomet.

For banks like Goldman, the change of tone is a reflection of a new post-crisis regulatory environment.

In the immediate wake of the crisis, JPMorgan Chase ( JPM), Goldman Sachs ( GS), Morgan Stanley ( MS) and Bank of America ( BAC) generally grew assets through mergers or took a greater hold over key underwriting, advisory and market making markets as competitors exited.

But hindered by new regulations like the Volcker Rule, which limits proprietary trading and private equity investments to 3% of overall capital and stiffer rules on leverage, Wall Street investment banks are braced to cede the world of buyouts and distressed investments to private equity firms. Meanwhile, banks aren't likely to see a significant revival of buyout financing, cutting at one of the more lucrative underwriting businesses on Wall Street.

"If we had a smaller fund, it would have forced us to be more disciplined," said Friedman of mega-deals prior to the crisis. His expectations for Goldman's eventual private equity returns prove the point. While he is targeting an over 100% return on the Goldman's $9 billion fund closed in 2006, he only expects a 20% to 50% absolute return on the bank's $20.7 billion 2007 fund. Because of an expected eight year holding period, returns "won't be spectacular but not as bad as people once thought," said Friedman.

If discipline is tempering Goldman's return to the private equity market, it may be a sign of caution that ordinary stock investors should watch for corporate profitability. "The public markets are not exactly low given current multiples on EBITDA earnings before interest depreciation amortization and depreciation," noted Friedman.

For more on Goldman Sachs, see why the bank is in a unique position to grow by shrinking

-- Written by Antoine Gara in New York

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