“We Europeans are wimps!”It is nine o’clock on a Sunday evening. EVCA chairman Max Burger-Calderon has returned from a day trip to the US with all the passion of a travelling preacher. As he marches back to his Hamburg office, he is taking the first chance he has had to bring the ‘word’ to the unbelievers.
“I heard US industry veterans speak on the state of the industry, and, you know what? It was so refreshing to be there. They don’t sit there in despair saying the world is going under. They address the problem head on.”
In part, the US trip has given access to a more bullish cultural attitude. In part, it has brought a greater depth of experience, and in part, it has brought a vision of recovery from a part of the world further on in the cycle than Europe. “When things were hitting the wall in the US, people here said it wouldn’t affect Europe; they thought Europe was different. Europe is not different. The US is just ahead of the curve. And now we are seeing them move into recovery,” he says.
US industry veterans have seen it all before and think now is a great time to be buying, says Burger-Calderon. The rapid growth of the industry in the past five years means not only have the depressed conditions shocked a market excited by the dizzy heights of 1998-2000, but that only around 25% of its personnel are old hands. “The other 75% are scared because this is their first time at the point in the cycle,” says Burger-Calderon. “It’s an important part of the EVCA’s job to instil that sense of perspective.” The organisation sees 1998-2000 as a bubble that caused a reaction, which is now also passing, with more stable figures ahead.
There is a tough love message too, though: “The people willing to do the deals will be the winners in four to five years. Those that are frightened to fight will be out of the industry,” says Burger-Calderon. He continues, “I think that’s what they were really talking about. The keynote lunch speaker talked about returns. He said it’s partly about qualifications, but partly just about being there. He remembers how bleak it was in the early 1990s, and how it picked up again in 1994, and then how good it was for the 1999 exits and IPOs. If people hadn’t built up portfolios they couldn’t have taken advantage of those better conditions.”
While we wait for improved conditions, however, we are faced with a private equity market has that has separated into two. The steep decline in funds raised by European private equity firms in 2002 – at E27.4bn, down 28% on 2001, according to AltAssets – is largely attributed to the decline in early-stage funding. LBO funds, which accounted for E20bn of the total, had a bumper year.
The buyout side has benefited from the sell-off of non-core operations in a Europe-wide restructuring programme. While the telecoms sector attracted most attention in 2002, key deals occurred across the board and will continue to do so, says Burger, in any sector where there is a lot of debt. “The banks are getting tough,” he says. “German banking, for example, is taking a look at the whole loan portfolio and spinning out parts of the debt balance sheet to special departments. These people have very little patience, so we see selling across the board at the moment. All the key deals we have been involved with happened because people tried to clean out their balance sheets. Not because they need the cash but because they were non-core activities.”
Venture capital, on the other hand has seen valuations fall so far that there is very little deal flow. VCs wrote off E938m in the first nine months of 2002 (2003 figures not yet completed as this issue went to press). And still, sellers holding out for better prices and buyers frightened of collapsing markets have created the kind of space you could sail a flotilla through. Here, in early stage business, deal structures are becoming simpler again, as the liquidation clauses that became popular for a while are proved difficult to work in practice. “We’re going back to simple equity,” says Burger.
The message that activity levels will pick up again is not exactly new, but this time is backed up by evidence from the other side of the pond. “Of course, some trades will not be easy. I’m not pretending they will. But it’s like 1994 again,” he says.
Still, he knows it will be a tough capital-raising exercise he expects to see coming to market at the end of 2003 and 2004. “You know how it is – investors are always looking to invest in what’s overvalued, so it will be difficult to convince people to come in,” he says. As an aside, an interesting development from Zurich-based manager Capvent might just help change private investors’ minds. Capvent has just launched a 90% capital-guaranteed note with a private equity underlying. While it is not clear how favourable the terms are to investors in this particular structure, capital-protected structures have raised $25bn (E23bn) in hedge fund assets in the past few years, with volume now running at around $12bn per annum.
At the institutional level, Burger says he has not seen much divestment from the industry’s considerable institutional base. “Pensions look at macro levels; the big, sophisticated investors look at the issues very calmly. Some of our senior partners spend a lot of time talking to institutions, and while people go through the portfolio and are definitely asking questions, the CalPers and others are not running away.” On his US trip, he says, only David Svenson from Yale’s endowment talked about reducing his portfolio, and he is a high profile investor who has built up an allocation between 20-30%.
As to the players, from his vantage point as Apax founder and executive of Zurich and Munich office, Burger says, “I can’t speak for everybody, but we are finding attractive opportunities. People are still being unrealistic, but they are starting to accept the circumstances. It’s not so much a matter of pricing any more, but of accepting changes in management, and so on.”
People are talking about consolidation among industry players, though... “Yes, on the VC side, where people are not able to raise money, you may see some consolidation,” he says. But on the large deal side, the most we are likely to see is houses bringing in other shareholders. “In general, conditions are good for them; why would they need to consolidate?” he asks. “The buyout side is raising new funds. They are behaving aggressively in a big market where the only buyers are private equity. These people are bright. They have vision…”
From here, Burger heads off into his other passion. Vision. Responsibility. The professionalisation of the industry, and the natural fit between the sound management of a company and its ownership. “…Succession problems, for example, are being handled properly,” he says. “Corporate governance is much better in PE than in the mainstream. Of course it is. Nobody ever ran away with the money. If an investment goes wrong, we are all over it. We stand up to it. We change boards; we restructure the balance sheet. In the mainstream you have people sitting on boards who do not represent the capital ownership of the enterprise. In private equity, our destiny is tied to the performance of the company.”
The EVCA is coming out with a paper this month on governing proposals on how to run a private equity fund (see page 9). And here is one area in which the European industry can pride itself on being ahead of the US curve. Its members’ organisation has already issued reporting and evaluation guidelines, and March will also see it launch an annual performance index. “Every day we become more organised and more professional,” says Burger.