Pacific Equity Partners is all too aware of the ebbs and flows of the Australian private equity market. Having raised more than A$8 billion ($6.09 billion; €5.7 billion) across five funds in more than 20 years, the Sydney-based buyout firm is the largest in Australia with deal activity at 1.7x the next largest company over the last five years.
From the boom that followed the financial crisis – Australia was considered something of a safe haven in the aftermath of the crash – PEP has led the development of the market by extending its product line with the PEP Secure Assets Fund. We talked to David Brown, managing director at the firm, about the state of play in the mid-market and why investors are attracted by the prospect of above average returns in a low-risk environment.
How has the private equity market developed in Australia since you joined Pacific Equity Partners?
There’s a bit of misconception around the extent of change in the market structure and funds under management and what’s really happening in the Australian mid-market. If you take it back to when I joined the firm in 2004 – there were four players in the domestic mid-market: Pacific Equity Partners, CHAMP, Archer Capital and Ironbridge Capital. The total funds under management between us then was about A$4 billion, which grew to A$6.5 billion by 2012 and remains at around that number today, but with a different set of players. Some funds are taking a pause while others have scaled down to sub-billion-dollar funds and dropped to the lower mid-market.
How did the mid-market players differ?
Each of the players in the mid-market has had a different investment strategy and been focussed on different deal opportunities which means minimal, if any, overlap on deals. We’ve seen a lot of new business cards with new logos, but not a lot of change to the FUM or the number of deal teams in the domestic mid-market. For us at PEP, we have a heavy focus on operational improvement and we tend to invest in businesses that need operational change and capital for growth.
What about global firms tapping into the Australian market?
From a market structure perspective, the brands we have seen down here have not changed that much. The focus of the global players has tended to be elsewhere on large businesses or businesses with natural and demonstrated growth momentum. While there has been stability in this segment with respect to the number of players, there has been quite a bit of change in the leadership and teams of those players.
What is the EV/EBITDA multiple for acquisitions in the mid-market?
In the mid-market, we’ve been paying about 8x EBITDA for businesses consistently over the period, which is in line with the market. It comes back to what we are doing – buying businesses that are invariably going sideways or experiencing low growth, then focusing on step-changing performance. Historically these businesses have had 4 percent growth prior to acquisition, while PEP aims to double profits over a five-year period. These types of businesses are often priced fairly for the opportunity because there is a lot of work to do. We often share the upside with the owners, in a joint venture type of structure.
How important are Australia and New Zealand in an investor’s portfolio?
For offshore LPs, the attraction of Australia and New Zealand is that we form part of the Asian region and have great access and exposure to the growth across Asia. Within our current portfolio, ACG Education has a big portion of Asia-based business, as does iNova Pharmaceuticals; for Manuka Health, Asia is a core export market; and even Patties Foods these days is starting to sell products in Asia across different parts of that business.
What you are getting with ANZ is exposure to the growth trends of Asia but also baseline stability.
If you are a pension fund in Texas assessing the importance of ANZ in your portfolio, you are getting a regulatory system similar to the US. You are getting consistent high returns, in combination with a low-risk regulatory and market framework, coupled with the growth options that Asia brings.
You also have the ability to do control transactions. The Chinese and South-East Asia markets have certainly grown but it’s still hard to get majority control transactions done and harder to get liquidity at the end. We’re getting a different dealflow from China and the rest of the region.
Looking at our prior and current portfolio, I think what we’ve been doing – buying an underperforming market leader and creating a business with a much larger scale and more stable platform – is also highly relevant for Asia trade buyers.
In October last year, PEP extended its core private equity strategy to include infrastructure through its Secure Assets Fund, which has a A$750 million target and a A$1 billion hard-cap. What was the reason behind setting up the fund?
There has been a regular flow of deal opportunities for a fund like this which we have seen over the years. These weren’t core infrastructure, but businesses with protected cashflows, either long-term contracts or strategic assets, where there were significant identifiable operational upsides. This provided the opportunity to earn returns that were substantially above traditional infrastructure levels.
As a result, we have a new fund initiative, the PEP Secure Assets Fund, which targets businesses with solid low risk base line returns, identified operational upsides and large co-investment opportunities. This is proving attractive to investors.
How do local businesses view private equity?
Support for private equity in ANZ has always been more positive than in many other geographies. This partly reflects the proactive position taken by AVCAL, the industry body. Our track record over the last 20 years shows we have done 30 standalone deals and over 100 bolt-on acquisitions in that time. For every platform deal we do, there are on average three or more bolt-ons. That’s what we’ve focused on – we buy leading businesses in industries that are performing below their full potential, invest heavily in them, change the strategy of the business, add management resources, invest heavily in sales, marketing and new product development as well as new geographies. The vast majority of value add has come from re-establishing growth.
PEP acquired Pinnacle Bakery in 2015 and Allied Mills in 2017, forming Allied Pinnacle. What attracted you to Pinnacle?
Pinnacle was the first acquisition in Fund V and it had a number of the characteristics of a core PEP deal – a carve-out from a corporate owner, strongly positioned in an attractive market and significant performance and operational upside. Six of our last 10 deals have been corporate carve-outs and it is a real focus for us. One of the benefits of that experience is knowing how to transition these businesses seamlessly.
On acquisition, there was an immediate investment in the operations of the business and transitioning to a newer manufacturing plant. This is similar to what we have done in a number of circumstances with the consumer foods and other businesses we have bought. In addition, there was significant focus and investment into new product development, senior management and sales and marketing.
Why did you combine Pinnacle and Allied Mills?
Allied Mills was also a carve-out from a corporate joint venture structure. The investment thesis behind the transaction was to combine the operating footprint of Allied and Pinnacle to create the leading milling and prepared bakery products business in Australia. Again, significant investment has gone into the factories, quality, safety and new product development.
The combined businesses have traded well – both revenue and earnings are progressing well and the operational synergies have been realised ahead of plan. In addition, a sale and leaseback of the property portfolio was completed in March, realising over A$350 million in proceeds.
This article is sponsored by Pacific Equity Partners.
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