Presentation on theme: "Current Financing Environment in Europe for Entrepreneurs & Investors 23 nov 2011."— Presentation transcript:
Current Financing Environment in Europe for Entrepreneurs & Investors 23 nov 2011
Bruno Deschamps Chairman & CEO of Entrepreneurs Partners LLP and EP Capital Ltd, an innovative business angel syndicate. Senior Executive Advisor to Arcapita, a global leading Private Equity, Infrastructure and Real Estate firm headquartered in Bahrain with investment activities in London, Atlanta and Singapore. 10 years in the Private Equity industry: Partner of 3i plc (London) and Clayton, Dubilier & Rice. Responsible for private equity investments in Europe, including companies such as Brakes Bros of which he was the Chairman and CEO, VWR, Culligan and Rexel. 20 years as Senior Executive of large int. corporations in the US and Germany: President and Chief Operating Officer of Ecolab Inc (Fortune 500 company headquartered in Minneapolis, USA). CEO of Henkel Industrial adhesives worldwide, CEO of Henkel Ecolab headquartered in Duesseldorf, Chairman & CEO Teroson Gmbh. Started career managing family-owned speciality chemical company in France: S.A.I.M President of the French Foreign Trade advisors in the UK, a Director of the Franco-British Chamber of Commerce, a member of the think tank le Cercle doutre-Manche, a member of the Chatham House, the Institute of Directors London and the Institut Montaigne Paris. He is a Knight of the Legion dhonneur France. 2
The outlook for European SMEs 3
4 # firms # employees Average revenue (M) SMEs of 250+ employees in several EU countries Source : Ernst&Young et ESCP-EAP, Grandir en Europe : hasard ou état desprit, Europe needs SMEs… M. Zuckerberg (30 Oct 2011, Y Combinator) We never went into this wanting to build a company. But a company is the best vehicle in the world to align a lot of people to achieve a mission. In a mature market (Europe), is there any other way to achieve economic growth and create jobs than through innovation/entrepreneurship? The UK has historically been good at encouraging SMEs and today has a stronger network of large SMEs than other European countries. In the 1970s (flat real GDP, declining living standards, high unemployment, social unrest) the West was saved by potent mix of technology and globalisation.
… and for growth, financing is key 5 Evolution of average capital in K for UK (in RED) and French (in BLUE) SMEs Note : average capital of companies founded in year n, with an initial capital superior to 100K Source : (IFRAP), 2008 Evolution of jobs created by UK and French SMEs Note : Jobs created in SMEs created in year n with an initial capital superior to 100K Source : (IFRAP), 2008 Survival rate after 3 years for firms created in 2006 depending on invested amount at launch Source : France, Insee 2006 and The probability of success of a SME is highly correlated to its access to financing. Seven years after launch, a UK SME has on average 5x more capital than its French equivalent and creates 4x more jobs.
The startup financing cycle should be Equity, Equity, Equity… then Debt Seed stage: savings + FFF + (grants) Early stage: business angels, small VC funds, (grants) The Valley of Death is not - and cannot - be financed through traditional banking services….even for tangible asset intensive SMEs which are increasingly less in the start up blocks. By definition, traditional loans are not suitable for non-mature businesses: expose lenders to all the downside but only limited upside! Only equity – or convertible loans (if valuation is really un-definable/agreeable) are adequate. Who better than ex-entrepreneurs/corp. execs to allocate capital efficiently to new SMEs? Besides finance, business angels may provide intangible capital (advice, contacts etc...). 6
Fiscal incentives are crucial to encourage direct investment into SMEs… and the UK has understood it! EIS (1) Mechanism 1 Mechanism 2 (2) Launch date % Tax relief on invested amount 30%22%50% Max investable amount £1 M (3) 20k (3) or 50k (3) for seed (JEI) 90 k Min Holding period 3 years5 years Tax relief if capital loss? YES NO (unless classified as Jeune Entreprise Innovante) Inheritance tax ? NOYES Other Ongoing consultation in the UK to possibly remove remittance tax for those repatriating funds to invest in UK SMEs (EIS eligible) One of the main measures undertaken during the last UK Budget (announced on 23 march2011) has been the clear strengthening of the fiscal incentives (EIS) in favour of business angels investing in UK SMEs. The UK government therefore chose to acknowledge the value added of business angels in the financing of SMEs and the important risk inherent to this asset class (long holding period, lack of liquidity, uncertainty). The survey undertaken by NESTA et BBAA (a) shows that in the UK, 80% of investors use the EIS and 53% state they would be doing less investment without this fiscal incentive (and naturally these statistics should further increase following this strengthening of the EIS programme). Via an important PR effect these fiscal incentives encourage citizens to discover business angel investing and thus bring the overall population closer to SMEs/innovation. The maximum annual relief for a French business angel is 45k, vs £300k (i.e. 340k) in the UK. As of today, the maximum loss that a UK business angel (taxed at 50% level) may incur is 35% of invested capital. (a) Sources: BBAA, May 2009, Business angel investing – promising outcomes and effective strategies Number of business angels 50k8k Average amount by business angel and by project £77k16k Source s: BBAA, PBA, Centre dAnalyse Stratégique, Sept 2011 But UK still needs to close the gap with the US: 250k BA, ~£18bn pa, £72k pa per capita, 3.5x more BA investment per capita
Entrepreneurs turned Super Angels An efficient re-allocation of savings Jon Moulton, Better Capital, Alchemy 100+ investments Stake in Ashmore Plc, for example, initially an angel investment, is worth ~ £70m and he admits that he has made more money as an angel than through working. However, keen to stress the risk involved: lost at least a third of the cash put into angel deals, while a handful of investments have made over a thousand times the money. Xavier Niel, Free, through Kima Ventures Officially The Most Active Angel Investor In The World 100 tech startups each year, every year. Forever. In any country in the world. Reid Hoffman, Cofounder of LinkedIn; former exec at PayPal 80+ investments After five minutes of a pitch, I know if Im not going to invest, and after 30 minutes to an hour, I generally know if I will. And hundreds of other prominent ex-entrepreneurs/senior execs turned full-time business angels: - Europe: Kevin Eyres (ex MD Linkedin Europe) for tech, Sir Terry Leahy (ex CEO Tesco) for retail. - Silicon Valley: Peter Thiel, Jeff Clavier, Dave McClure (Paypal)...
The outlook for EU start-ups is good…. We are the BRIC of entrepreneurship In its infancy, an innovative startups results are not correlated to the overall macro environment eg. Did Facebook/Linkedin etc.. stop growing because of economic slowdown in 2008/09/10? Mature EU markets (low growth, high trade deficits). Recovery can only come from innovation. FB effect: drastic change of mentality towards entrepreneurship, visible esp. in Continental Europe. EU full of large/mature firms, who want/need to acquire growth : strong M&A exit potential for SMEs. Less advanced innovation market logically means catch-up to come, more opportunities for current entrepreneurs/investors + EU start ups have learnt to be capital effective (at least a pro to absence of capital!). In Tech, strong consensus that Silicon Valley is becoming overpriced. EU stands a chance for new global hub.
The outlook for EU start-ups is good….esp. in the UK We are the BRIC of entrepreneurship UK focused on encouraging enterprise: Improved EIS + Improved Entrepreneurs relief + TechCity + SU Britain. Ecosystem: Effective Cluster model has emerged in the UK: Cambridge (~24% of UK VC) + Silicon Roundabout. Attractive and recognised business-friendly environment + low bureaucracy + int. language + soon lowest corp. tax rate among G7 countries in 2013) -> 16% less than US, 11% less than France, 7% less than Germany! UK government is proving to be very reactive: UK determined to get away from high historical dependence to Financial Services sector + Incentivise create-your-own-job approach to unemployment. Relayed by organised mid-stage finance: £2.5bn BGF by 6 high street banks + £1.4bn UK RGF. UK government is listening to entrepreneurs to make their life easier: will soon launch one-click platform for SMEs + Asking to tell where rules and regulations get in the way of innovation.
Benefit from networks expertise and credibility Proactive investors focused on nurturing tomorrows leaders Benefit from full tax relief UK: 30% on day 1 + no CGT + deductibility on any loss + inheritance tax relief Build a diversified portfolio of SME investments Widely regarded as the winning strategy Tax-free capital gains Limited and fair transaction costs Premium EP offering Focused screening and facilitated investment process You only lock-in what you invest No committed funds, therefore low opportunity cost of capital Access to an attractive asset class Average 22% IRR (a) on UK angel deals 11 (a) As shown by May 2009 study published by Nesta and BBAA, surveying 158 UK-based angel investors who have invested £134m into 1,080 angel investments between them. EP Capital: UK/France venture syndicate
The financing environment for larger companies Private Equity : how we work, what happened, what is likely to happen 12
13 The PE industry
Private Equity: 80 years of history < : Launch of Charterhouse Development Capital 1945/46: Launch of - ICFC (Industrial and Commercial Finance Corporation), ex 3i in the UK - ARD (American Research and Development Corporation) in the US 1958: Small Business Act (US) 1964: First LBO by bankers from Bear Stearns (MM. Kohlberg, Kravis and Roberts) : Launch of Nasdaq. 1972: Launch of Kleiner Perkins, Sequoia Capital, Sofinnova Partners and Adam Street Partners. 1973: Launch of USNVCA : Launch of EVCA 1985/1987: Launch of Blackstone Group and Carlyle. 1988: KKR LBO of RJR Nabisco. 1989: High Yield market crisis : Launch of ILPA. 1995: Launch of AIM. 1997: Asian financial crisis. 1998: Russian financial crisis. 2000s 2001: Burst of internet bubble. 2002: Legrand taken over by KKR and Wendel. Brakes is taken over. 2004: Rexel taken over by CD&R, Eurazeo and Merrill Lynch. 2007: Largest European buyout, 14.1bn (Alliance Boots). 2007: Walker recommendations on transparency for PE. 2007: Sub-prime crisis : CD&R sells Brakes : Economic crisis spreads. 2010: Short-term boom of High Yield debt market, replaces loan market for refinancings and allows PE to generate some returns in unconventional ways (eg « dividend recaps »).
Many different types of Private Equity Differentiating between VC and Buyouts Venture Capital: Seed to Late (ex: Balderton, Index, Accel... Unilever Ventures, Google Ventures) Growth Private Equity (ex: Carlyle, Summit, TA, GA...) Buyouts, LBO : small,mid or large cap (ex: Blackstone, KKR, Apax, CVC, CD&R, TPG, 3i, Arcapita...) Minority stakes Majority stakes Main Focus is growth Main Focus is efficiency Look for firms with: innovation, IP, potential to scale, revenue Look for firms with predictable, recurring cash flows, optimisation potential
The PE Buyouts industry 16 European Buyouts historical geographic split Source: PEREP_Analytics for 2007 & 2008; Thomson Reuters/PwC for previous years 1 400bn invested between 2004 and 2008 globally, inc 280bn in Europe companies in Europe Cumulatively 6 million jobs in Europe The UK has historically been the leading recipient of PE Buyouts investment in Europe, despite an economy that is mainly services focused (although it brielfy lost to France this year). This is largely thanks to a business friendly environement.
The PE Buyouts industry: LPs Funding From FI to PE 17 Fundraising from financial institutions (fund life expectancy: c.10 yrs) 3-4 years: investment in unlisted businesses Return funds to financial institutions with gain/loss Value creation in 6-7 years Typical fee structure for PE Buyout firms 1.5% to 2% of invested funds (management fee) 15% to 20% of realised capital gains…if gain above 8% IRR, cash to cash (carried interest) Provenance of PE funds (LPs)
PE Buyouts : value creation 1/2 Buyouts are an efficiency mechanism for the corporate world 18 1.Strong focus on OPERATIONAL performance and OPTIMISATION of resources (eg Working Capital). 2.Alignment of incentives on a medium term partnership between investors and management. 3.Away from the distraction of the « short-termism » of public markets, PE implies strong relationship with limited number of shareholders. 4.Knowledge, network from PE investors (eg Operating Partners). PE Investors use all available resources to help management team achieve its objectives. 5.Efficiency : « back to basics », needed after long periods of time focusing on growth. 6.Some leverage increases discipline (eg constant focus cash flow) and debt is inherently tax-efficient (deductibility of interest payment). 7.Frequent comprehensive strategic review with Management and potential acquisitions or disposal of « non-core » assets
19 Source: Thomson Reuters/EVCA E&Y recent study hows better OPERATIONAL performance of PE in Europe relative to average of equivalent listed businesses, with annual growth of: –15% of operating income –5% of employment –9% of productivity In an LBO situation, most value creation comes from growth in operating results. Contribution of value creation to LBO performance for the 59 exits of 3i since 2001 (completed exits) PE Buyouts : value creation 2/2 Buyouts are an efficiency mechanism for the corporate world
20 PE Buyouts Case Study Brakes (LBO CD&R, )
Brakes : First LBO with CD&R Different steps we used to create operational value Strategic repositioning Start thinking about growth initiatives Crisis situation Integration of past acquisitions Turnaround of company (near bankruptcy) Crisis situation – Turnaround Big Bang IT / Logistics Regional P&L Consolidation Rationalisation of activities Management team strengthening Profitization Stabilisation Growth Acquisitions Growth Preparation for future acquisitions Goal was to reach perfect equilibrium between offensive and defensive measures …
Brakes : First LBO with CD&R Strong operational improvements achieved under LBO 22 Sales turnover EBITDA Cash Flow
Brakes : First LBO with CD&R Positive experience for all actors 23 Staff Clients Suppliers Stabilised future Healthy corporate culture implemented Rigorous and ethical standards A unique offering of « one-stop shopping » in multi-temperature Important and needed innovations in Quality, Traceability Improved service to restaurants Having been rescued, Brakes is a healthier client to deal with. Bargaining power re-equilibrated with suppliers (bargaining power -> working capital.
PE Buyouts : Many Strengths and Weaknesses but the rationale still holds Effective governance mechanism. Alignment of incentives between management, employees and investors. Additional expertise, particularly useful for « Buy & Build ». Medium to long term horizon useful to implement change. Long term operational performance > listed companies. Remuneration of investors directly linked to investment performance. Suitable for some companies and situations but not all companies (need for recurring and predictable cash flows, low and predictable Capital Expenditure). High dependence to debt market. History shows many excesses + bubbles due to: – a surplus of capital on the market (which has pushed investors to use financial engineering techniques rather than operating work). – pressure for PE managers to invest once funds have been raised. 1.An excellent solution for some companies, but not suitable to all. 2.The industry is young and still learning/adjusting. 3.Do not throw the baby out with the bath water.
25 PE industry, whats happening
Growth / bubble creation(volume, leverage, valuations) Financial crisis (Volumes drop drastically) Transition from financial crisis to economic crisis Hopes and uncertainities Private Equity Buyouts An industry which has gone through important cycles Source: Mergermarket 26
Evolution of the Buyouts industry Valuation multiples, Debt/Equity split – Today Senior Leverage max (xEBITDA) 3.5x6.0x3.0x /3.5x2.5x / 4x Total leverage max (xEBITDA) 4.5x7.0x / 8.0x +4.0x4.0x / 5.0x % of debt60%80%50%40-55% Any Covenant?YesNoYes Debt financing Fair to say PE investors became somewhat greedy. Used excessive leverage thanks to low interest rate environment and open bank debt market. -> Implied very high entry valuations during : 10x + EV/EBITDA... -> Breach of covenants: Hard/impossible to keep up interest repayment if economic assumptions dont hold up eg EMI, Terra Firma, Citi drama eg Icelandic generic drugmaker Actavis and DB drama
Impact of the economic/financial crisis on PE Buyouts Holding period for PE Buyouts is logically trending up Source: Grant Thornton, Private Equity News 1.Difficult to exit 200X vintage. Longer holding period. Unstable IPO market + trade buyers wait & see. 2.Operating results correlated to weak economic outlook. 3.High leverage -> renegotiation with banks and leveraged loans investors. 4.Little refinancing debt available. HY market reopened aggressively in early 2010 but HY is expensive and unstable (eg closed since summer 2011). 5.Commodities markets have further impacted operating results. LBO debt (bn) by maturity: the liquidity wall 28 67bn Liquidity wall
Current crisis LBO valuations are still high, in an uncertain environment US mid-cap Source: S&P LBO Quarterly Review. Q Europe mid-cap Source: European S&P LBO Quarterly Review. Q USEurope 29
Current crisis Absence of visibility on macro outlook changes the game More than ever, seek top management team for portfolio companies. Use international expansion to seek growth. Large public-to-privates are clearly out of question. Imperative to create value through operational efficiency only. Leverage kicker is gone and need to compensate for high entry prices. Some large corps are offloading non-core assets to focus on emerging markets. Many restructuring, secondary buyout/distressed debt opportunities. Work on PE PR. 30
Current crisis Disequilibrium between univested capital and availability of debt financing Access to debt financing still compromised, expensive and unstable. Substantial portion of capital raised by PE yet to be invested. Yet still high valuations and competition between funds for strong assets. Weak fundraising outlook given increasing pressure on LPs (eg Basel III for banks, Solvency II for insurance companies). 31
Conclusion Outlook for the PE Buyouts industry Painful but natural/healthy readjustment of the industry following excessive profitability in Role of new emerging actors : strategics, SWFs. Increasing regulation: pressure on funds and their LPs. New type of relationship between PE funds, LPs and managers is emerging. -> Changing fee structure? (eg Apax has compromised). Longer fund life than 10/12 years? Lenders to PE have changed. Substantial leveraged debt writedown for some banks so institutional investors, inc. hedge funds are taking over as top debt providers now -> higher debt prices. Clear evolution of the PE Buyouts business model: some (major) actors disappear (eg Candover officially in run off mode), less competition means more opportunities. Move away from returns creation through financial engineering and more than ever, imperative to focus on operational improvements for old and new buyouts. Therefore, probably less financiers and more ex senior corporate executives at the helm of large PE houses. Careful not to throw the baby out with the bath water. Basic rationale still very much makes sense. 32
Benefit from networks expertise and credibility Benefit from full tax relief Build a diversified portfolio of SME investments Tax-free capital gains Premium EP offering You only lock-in what you invest Access to an attractive asset class 33 Your Entrepreneurs Partners
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