US buyout firm Clayton, Dubilier & Rice‘s investment playbook for the covid-19 pandemic has similar characteristics to its 2008-09 global financial crisis strategy, according to the firm’s co-president and head of Europe.
The firm’s latest transactions, as well as the first few deals in the early years of Fund XI, will look a lot like its $5 billion Fund VIII, which came out of the GFC, David Novak told Private Equity International.
“We always look back on history. Yet we also have to take a view that some businesses will recover and get back to the old normal, while others will need to shift in line with changing consumer sentiment and behaviour, and we’ve invested in both situations.”
The firm has closed or committed to seven investments across its 2013-vintage $6.15 billion Fund IX and 2016-vintage $9.4 billion Fund X. These include LSE-listed SIG, a building products distributor in Europe; the acquisition of healthcare and communications group Huntsworth valued at £575 million ($724 million; €640 million); and most recently, the add-on acquisition of French furniture retailer Conforama.
Novak, who declined to comment on the fundraising status of Fund XI, noted that the firm is yet to invest from the vehicle. CD&R reached $10 billion out of a $13 billion fundraising target for Fund XI in May, as previously reported.
“The pandemic will likely impact the investment environment for a number of years,” Novak said. “This isn’t just about investing in companies facing challenges, but also in a lot of organic growth opportunities for those companies to gain market share, followed by add-on acquisitions.”
PEI‘s May Covid-19 Study found that the majority of managers (73 percent) surveyed were looking to be more active to take advantage of lower asset valuations amid the pandemic. Fully 90 percent of respondents also expect to ask their LPs for greater flexibility on the investment mandate.
Novak noted that similar to CD&R’s peers, when the coronavirus outbreak began, the firm was “all hands on deck” in figuring out the impact on the cost, cash and liquidity of its roughly 30 portfolio companies in different geographies and industries.
“That really was an incredible time in which we went from relatively normal trading to a significant change in the economic and business environment. We were focused on liquidity and minimising cash burn.”
The second part was preparing its companies for emergence from lockdown or “the new normal” in which both consumer behaviour and corporate buying will be different.
The final stage is mapping out how to invest in the changed environment. Novak noted that PE firms are responding to the market dislocation in three ways: through a wait-and-see-until-markets-stabilise approach; by deploying as much capital as they can; and by investing in complex situations where operational, strategic and financial capabilities can make a difference.
Novak said CD&R is employing the third approach during the pandemic. “How do we play offence now? It’s similar to what we did coming out of the GFC; we invested in organic growth opportunities as those companies take market share and did a lot of bolt-on M&A.”
The firm’s strategy of acquiring orphaned corporate divisions or partnering with entrepreneurs, family owners and corporates evolved out of the 2008 crisis, Novak added. This approach includes providing upfront cash proceeds, growing profit, helping businesses manage issues such as leadership transitions and growth challenges, as well as improving governance.
CD&R completed four such partnership transactions coming out of the GFC from 2009 to 2011. The cumulative returns for the deals were more than three times the amount the firm originally invested, according to sources with knowledge of the matter.
This development has been particularly significant at CD&R, where more than 60 percent of capital invested over the last decade has been in solution capital or partnership transactions.
The result: highly-customised transactions featuring a variety of terms including investments in convertible preferred shares or in ordinary shares; majority or minority stakes; LBO-style or corporate debt structure; varying dividend commitments, governance rights, put and call provisions, and standstill clauses, among others.
In April, the firm executed a $250 million convertible preferred equity investment in portfolio company Covetrus, an animal health tech company, to provide additional resources for the company’s strategic growth objectives during the pandemic.
Consumer-oriented businesses have been one of the sectors hardest hit by the coronavirus. Novak expects that the impact will start to move into industrials and B2B services, where the next wave of investment opportunities could present itself.
CD&R has invested over $30 billion in more than 90 companies since its inception in 1978. The New York-headquartered firm primarily targets companies in consumer/retail, healthcare, industrials and services.
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