Where there is a queue, getting close to deals can be tricky. Take France, for example: “Some players haven't invested as much as one euro for four or five years, and that's a problem for them,” says a member of a leading investment team operating at the larger end of the French buyout market. This statement may be an exaggeration, but the view that the French buyout market has become highly competitive is proffered time and again – both by those in the market and those observing it from outside.
At the larger LBO end, a plethora of overseas firms are prepared to compete in auctions with domestic players as and when assets become available. Some of these firms were alerted to the potential of the French market in 2002 when a number of sizeable deals were completed – only to be disappointed last year when not a single French deal made it into the list of Europe's top ten largest. The only €1 billion-plus transaction completed during 2003 was the €1.1 billion ($1.34 billion) secondary buyout of building materials firm Materis by LBO France, which acquired the business from Advent International, Carlyle Group and CVC Capital Partners.
In an environment where demand outweighs supply, paying top dollar may be the only way of securing the deal. And if you're intending to outbid your rivals, you'd better be sure you have an angle on the deal that justifies it.
Nordic buyout house Industri Kapital appears confident in its ability to identify such angles given that it has completed four deals in the country in the last four years – despite not having an office there.
LBO DROUGHT ENDING
Industri Kapital director Christopher Masek says the firm's strategy is to wait for assets to come up for sale where it can replicate strategies successfully applied to existing portfolio companies.
But Masek is not of the opinion that this year LBO firms will have to confine themselves only to industry sectors where they have specific expertise: he thinks the deal flow drought is coming to an end. “Two years ago there were a lot of deals from corporate spin-offs and, while things went quiet last year, there are some big ones in the making now,” he says.
Already there has been evidence of this. PAI, the Paris-headquartered pan-European buyout boutique, set the ball rolling by taking control of shoe and clothing retailer Vivarte through a €1.24 billion public-toprivate in February.
And there are a number of other deals in the pipeline. A host of private equity firms including BC Partners, Eurazeo and Carlyle Group are reported to be interested in a €2 billion-plus buyout of Worms & Cie, the Paris-based industrial company in which Italy's Agnelli family holds a 53 percent stake. In addition, casino operator Groupe Partouche has confirmed it is in talks with regard to a joint offer from Cinven and Permira, for which financial details have not been disclosed.
Traditionally, LBO houses operating in the French market have pinned their hopes on developments in the corporate world for future deal flow. For example, in January 2004 a wave of anticipation rippled through the market when shareholders of industrial group Pechiney finally relented after initial resistance to a $4.7 billion takeover by Alcan: the deal is expected to lead to the sale of some attractive non-core assets.
But the dynamics of deal flow are changing, says Jean Ducroux, a director in the French office of midmarket buyout firm Electra Europe: “Corporate divestments have undoubtedly driven the market over the last few years as a consequence of groups being overloaded with debt and having to sell divisions to raise cash and improve their balance sheets,” he says. “But this is changing because a lot of the ‘cleanup’ has already been done and the economy is improving.”
THE GROWTH OF THE SECONDARY
Ducroux adds that in his opinion there are now more family companies up for sale – though this is not yet borne out by statistics. Last year, sales by private and family vendors in France fell for the third consecutive year to account for 24 percent of the total number of divestments.
Instead, the clearest evidence of a seismic shift in terms of the sourcing of deals in the French market is provided by the secondary buyout. In 2003, there were a record 16 secondary transactions representing a highest ever proportion of the total number of transactions (17 percent) and also a highest-ever total value of €2.6 billion, according to Initiative Europe.
The rise of the secondary may be interpreted in different ways. It may be that the French market is following the example of the UK, where suspicion about the motives of the seller in such deals seems to have been overcome. But taking the more negative view that buyers are attracted to secondary transactions only because of a lack of alternative deal flow would lead to the conclusion that demand for deals in the French market may indeed be outstripping supply.
The implications of this have perhaps not yet been fully seen due to the absence of trade buyers from the M&A market over the last few years – but add the perceived current revival of corporate confidence to the equation and existing concerns about lack of deal flow could become more pressing.
There are some signs of a corporate revival already. Towards the end of last year, steel-maker Arcelor sold its Pum Plastics distribution business to building materials supplier Saint-Gobain for €185 million, in the face of considerable reported private equity interest. And PAI's recent attempt to take optician group Grandvision private was scuppered by a €600 million counter-bid from Dutch strategic buyer HAL.
“Two years ago there were a lot of deals from corporate spin-offs and, while things went quiet last year, there are some big ones in the making”
If competition is indeed increasing further, then nowhere will the news cause greater concern than in the mid-market, where institutional appetite for country-specific funds combined with the presence of a large number of foreign investors has created a plentiful supply of capital seeking a home.
“The depth of the market is good, but it is competitive and prices being paid for businesses have not gone down sufficiently, ” opines Dominique Peninon, managing partner of Paris-based fund of funds Access Capital Partners. But he adds that institutional investors are being selective and that only the best funds are gaining support. He says given that only “two or three” French mid-market funds are likely to be on the fundraising trail during the remainder of the year, it's possible that the overheating seen at present may not be a long-term phenomenon.
BUYOUT VOLUME IN EUROPE 1999-2003
BUYOUT VALUE (€M) IN EUROPE 1999-2003
OPTIMISM AT THE SMALLER END
If you take the fragmentation process a step further, it is also possible to identify a ‘lower midmarket’ populated largely by domestic players. Here, competition appears less of a problem than in other market segments, with one oft-cited reason being a number of former operators moving up in target deal size.
In their ‘Europe Buyout Review’, Initiative Europe and Bridgepoint Capital pinpoint healthy deal flow in the smaller buyout market as the main driving force behind a 52 percent increase in the number of French buyouts in 2003, despite the total deal value falling 29 percent to €9.5 billion.
Typical of this breed of investors is Activa Capital, which closed a €162 million fund in December 2003. The firm has already completed three investments from its fund, the most recent being the acquisition of a majority stake in pharmaceutical manufacturing outsourcing (CMO) business Delpharm from Aguettant, a supplier of drugs to hospitals.
One of the main attractions of the lower mid-market is that the need to cultivate strong relationships acts as a barrier to entry for would-be newcomers. Of the Delpharm deal, Activa partner Charles Diehl says: “We had built a strong relationship with the management team and were chosen by them to be their partner. As such we managed to avoid any competition in the sale process.” He adds that none of the three latest deals completed by the firm have involved auction processes.
Another testament to the potential of the lower mid-market came when LBO France launched its €50 million Hexagone fund to target small-cap companies worth between €10 million and €50 million in April 2003. Spearheaded by Jean-Marie Leroy, a former small transaction specialist at Paribas, the fund demonstrated that even a firm such as LBO France that is synonymous with the larger end of the market was keen to gain access. Hexagone completed its first deal in January 2004 when acquiring a 55 percent stake in Valorex, an animal feed technology business.
There are drawbacks associated with buyouts of smaller companies. For example, the management team may be lacking in experience, while building a business up through small acquisitions can be lengthy and complex and there is arguably a smaller population of potential acquirers than at the larger end. But anecdotally, the lower midmarket is perceived to be the most attractive segment for doing deals in France at the current time.
Christopher Masek of Industri Kapital is optimistic about the French market both large and small. “There are a lot of people waiting for the market to really open up, but I don't think the deals getting done at the moment will prove a disappointment,” he says. “The market is well trawled, but so are other markets such as Germany and Scandinavia: in fact, there are not many markets that don't have competition problems.”
Still, there are concerns that the French market has reached something of a peak, and that deal structures are being tested to the limit. “Some deals being completed at the moment are relying on strong economic performance and bankers have to take care that deals do not rely on too strong and quick economic recovery,” says Pascal Werner of Royal Bank of Scotland.
Only time will tell whether the current level of competition in France is sustainable or whether depreciating returns will make profitable investment a tougher task in the years ahead.