Europe embraces US deal

Unlike their US counterparts, high net worth individuals in Europe have largely steered clear of private equity, writes Henry Smith. Investment in this alternative asset class has been left to institutional investors. At the moment, maybe it’s just as well. Latest findings from the Brussels-based European Private Equity and Venture Capital Association (EVCA) show a significant decline in investment activity in the first six months of 2001, with 13.5 per cent fewer companies backed than in the same period in 2000. Not too surprising, given an economic downturn which has seen many investors in technology start-ups taking an early bath. Survey responses received from 58 per cent of European private equity houses in the first half of 2001 show that E11.1bn was invested in 4006 companies. This compares with E13.5bn invested in 4630 companies in the same period of 2000, which represents a decrease of 17.4 per cent. While buyouts held up well, witnessing only a four per cent drop in investment, total venture capital (seed, start-up and expansion) investment fell 27 per cent from E7.3bn to E5.3bn. The high-tech sector suffered a dramatic 40 per cent decline in total investment – from E4.4bn to E2.6bn in the first half of 2001 – as valuations slid sharply. The average investment size per company for high tech was E1.3m, compared to E1.9m for the same period last year. Notwithstanding investment falls this year, private equity is an increasingly popular asset class. According to research by PricewaterhouseCoopers for EVCA, the total value of annual private equity investment in Europe increased by 39 per cent from E25.1bn in 1999 to E34.9bn in 2000. The UK reaps the lion’s share of private equity funding, reflecting its status as a longer-established and more mature investment market than continental Europe. Gillian Middleton, European private equity research manager at Thomson Financial Venture Economics, puts it down to a corporate culture which readily embraced the US-born concept of the leveraged management buyout in the early 80s and to the existence of pension funds able to invest in private equity. She adds: “And speaking the same language has made it easier for US investors to understand investing in the UK. Europe is simply taking its time to catch up and each market is evolving differently. For instance, the Nordic countries are keen on buyouts whereas Germany has a well-developed venture industry.” She points out that private equity funding is currently in the doldrums because Initial Public Offering and related mergers and acquisitions markets are severely depressed, so making it difficult for general partners to make a profitable exit. Added to this, firms are having to write down the value of existing portfolio companies. And Ms Middleton predicts only a “slow, steady improvement” next year, with the possibility that returns may turn positive in the fourth quarter. “The mid to large-sized buyout market will claim the bulk of the money as prices come down and the deals get bank finance sorted out.” Complete and reliable private equity return data is not yet available for 2001. While it is expected to make less than ecstatic reading, the EVCA’s 2000 Pan-European Performance Study reveals an asset class revelling in somewhat happier times. The results show an overall 14.2 per cent pooled internal rate of return (IRR) for all stages of private equity since inception through to December 31 2000. Buyouts and venture capital stages were the top performers with IRRs of 19.2 per cent and 13.2 per cent since inception, respectively, and the largest proportion of investment paid back to investors. Since relatively few private investors have taken the plunge into private equity, how should newcomers to this asset class be advised? Craig Donaldson, a director at London-based private equity firm, HgCapital, recommends that first-time investors seek out a good private equity fund of funds. He says: “These vehicles ought to provide the ability to give their investors excellent manager selection with a good spread of private equity investments, diversified by geographical region, investment stage and industrial sector.”