Private equity deals returning to normal after ‘once in a generation’ boom in 2021

Leo Casey has been working in corporate finance for almost 20 years, but what happened in investment markets last year was unprecedented in his experience.

After the economic shutdown caused by Covid-19 in the first half of 2020, businesses were in a rush to catch up on lost time.

Fuelled by unprecedented capital availability as a result of government stimulus and an ultra-low interest rate environment, corporate takeover deals and merger and acquisition (M&A) activity surged to record levels.

“2021 was a once-in-a-generation year. I’m a long time working in corporate finance, and I’ve never seen anything like what happened. There was absolutely no shortage of capital knocking around and business valuations got very frothy,” Casey, head of private equity firm BGF’s Irish operations, told the Business Post.

Last year was certainly a good time to sell a business, as company valuations surged to unprecedented levels. Even Denis O’Brien, the founder of the Digicel Group, was encouraging business owners to think about selling up and take advantage of the record deals available.

“Right now the markets are so hot, private equity is just so stuffed with cash that they’re trying to buy businesses all over the world,” O’Brien said in December last year.

“This is a time where people can sell their businesses at higher multiples than they ever, ever expected. I’m always a great believer that if somebody gives you a big valuation of your business, take it. In the space of a year, things can change and you can spend the next five years with your business and not grow the value of it,” he added.

And a lot has changed in a year. In the intervening months the global macro-economic environment is utterly different to last year. Inflation rates in all developed economies have surged to 40-year highs, Europe is experiencing the greatest energy shock since the oil crises of the 1970s, and Russia has invaded Ukraine.

In short, the economic landscape is deeply uncertain, and investors are trying to navigate much more risk compared with this time last year. So how have these changes affected sentiment among private equity investors in Ireland? And is it still a good time for a company owner to take some cash off the table by selling a stake in their business?

Reduced liquidity
For Casey and BGF Ireland, the changed investment landscape hasn’t necessarily led to a drop in valuations.

“Good quality businesses will always attract capital. And there’s no shortage of capital right now in the mid-market area where BGF plays. Valuations have moderated in certain areas like the tech sector but that’s because there was a super frothy market in 2021,” he said.

“There were some supercharged valuations being paid for tech businesses and that’s started to normalise now. However, I don’t think the price realisation in tech applies across all sectors.

“In established, cash-generative businesses, owners and founders still have expectations for high valuations after what happened last year. Those expectations are not going to fall overnight. Rather than a major drop in valuations, I would say there’s probably reduced liquidity this year as there’s a lot less fast money in the market. And that’s probably not a bad thing,” Casey added.

Since it entered the Irish market at the tail-end of 2017, BGF has deployed almost €100 million investing in 13 different companies here across a wide range of sectors, including firms such as Tigers Childcare, Croom Medical, which designs and makes precision medical device components, and Team Accessories, an aircraft maintenance business.

The most recent investments by BGF came earlier this summer when it paid more than €22 million to acquire minority stakes in two Irish companies; Revive Active, the Galway-based food supplement provider, and Dublin Meat Company.

Backed by the Ireland Strategic Investment Fund and a syndicate of eight financial institutions, the private equity firm has a balance sheet fund of €250 million so it still has plenty of capital left to deploy in Ireland, including the money it recycles from existing investments.

Casey said the firm will write cheques ranging from €2 million right up to €20 million to invest in a company, and that it will always take a minority stake of up to 40 per cent in a business as part of any deal. Despite the current uncertainty in financial markets, he said BGF was currently rebuilding its investment pipeline in Ireland after a string of deals in the first half of this year.

“From a macro perspective, I think we’re going to see a bumpy road in the near term over the next three years. But I try to take a six to seven-year view when I’m thinking about investing in a company,” Casey said.

“I think the current headwinds in markets is resulting in a flight to quality for private equity investors. So the quality bar for companies seeking investment is higher than ever, especially if the firm operates in a space that is more exposed to the current macro headwinds like inflation, rising interest rates and supply chain disruptions,” he added.

That flight to quality can certainly be seen in the numbers. Figures published by William Fry, the corporate law firm, show M&A activity in Ireland dropped 14 per cent in the first half of 2022, with 122 deals completed.

The total value of these deals stood at €6.4 billion, which was down 66 per cent on 2021 levels illustrating a sharp fall in so called “mega-deals” in Ireland so far this year.

Jonny Cosgrave of Melior Equity Partners: ‘Deals are taking longer to complete this year as investors are much more circumspect.’ Picture: Fergal Phillips
Jonny Cosgrave, a partner in Melior private equity, said the drop in the volume of deals was not surprising as investors were taking a more “judicious” view to completing transactions this year.

“Deals are taking longer to complete this year as investors are much more circumspect. They want to be sure and are taking more time on due diligence before giving anything the green light. Although deal volumes are down in the first half of this year, it’s important to remember we’re coming off a strong comparative year,” he said.

“If you compare this year’s figures to pre-pandemic levels in 2019, deal volumes in Ireland are actually up 12 per cent; 2021 was a banner year for M&A activity in Ireland. The only word I would use to describe last year is frenetic, especially in certain sectors.

“The valuations that were paid for certain companies last year was extremely frothy. A lot of that froth is definitely coming off valuations, particularly in the tech sector. But that’s not to say anything is cheap out there right now. We’re still seeing very full prices being paid for companies,” Cosgrave added.

Founded in 2020, Melior has raised €160 million for its first private equity fund. Last year, the firm announced its first investment after it acquired a significant majority stake in Dublin-based BHP Insurance for an undisclosed sum.

This was followed by two further investments, after Melior acquired majority stakes in Salmon Software, the Dublin-based treasury management software company, and Rose Confectionery, a sweets, snacks and freeze pops manufacturer based in Co Offaly.

The firm still has almost €100 million of its initial fund left to deploy and Cosgrave is hopeful of completing at least one, if not two, deals by the end of this year.

Private equity developments
Although there are quite a number of private equity firms in Ireland today, the industry is still relatively new to the market here. It’s development over the last decade has been encouraged by the Ireland Strategic Investment Fund (ISIF), which has quietly encouraged firms to set up shop here.

“The private equity landscape in Ireland has evolved from a nascent industry a decade ago to a much more mature market now. It’s positive to see so many active investors all offering distinct advantages to entrepreneurs,” Nick Ashmore, director of ISIF, said.

“There are funds with expertise and capabilities in all areas. These funds can support transactions taking both majority and minority shareholdings and they can offer funding to support M&A, expansion capex [capital expenditure] or product development,” he added.

Ashmore’s comments were backed up last week after Waterland, the European private equity firm, announced it would commit an additional €100 million to invest in Irish businesses over the next 12-18 months.

The Dutch-headquartered firm said it was interested in Irish businesses with exposure to trends in ageing populations, outsourcing and digitalisation, sustainability and leisure, and that it typically aimed to invest in fast growing businesses with annual profits (Ebitda) of between €2.5 million and €50 million.

Laura Dillon, who leads the Irish arm of Waterland, said the firm had already invested close to €100 million in the Irish market since 2019. Waterland has already taken majority stakes in three Irish businesses: Silver Stream Healthcare, a nursing home provider; Writech, a manufacturer of fire protection systems, and MTM Engineering, a data centre cable specialist.

“We’ve quite a number of potential deals in the pipeline at the minute. It’s not a volume game for us. We take a patient approach and will only invest in one or two platforms a year,” she said.

“There’s still a lot of capital out there between private equity, venture capital and trade players. What’s changed in the last 12 months is the level of risk appetite among investors. Inflation is at very high levels, interest rates are rising and there’s a lot of volatility in earnings out there right now.

“Valuations for companies are still reasonably high but they have moderated slightly. However, good businesses will always be able to attract investment at a decent valuation. The difference this year is there’s a lot more investor hesitancy around unproven businesses compared to last year. And that’s why every company has to be really transparent on their financial performance and business plans,” Dillon added.

Laura Dillon of Waterland Private Equity: ‘Times of uncertainty create opportunities.’ Picture: Fergal Phillips
She said private equity investors were looking for companies to invest in that are growing above the rate of inflation right now and in sectors where there’s fragmentation and opportunities for consolidation.

“Times of uncertainty create opportunities. We look for businesses that can get to a margin of 10 per cent. You need that kind of a margin for a business to comfortably weather a storm like we have right now,” Dillon added.

“That’s why I think cashflow-negative tech companies are very difficult to invest in right now. When we look to invest in a tech business today, we’re looking for an established business with positive cashflow and a track record. And there are a lot of Irish businesses out there that are still doing really well this year despite the macro environment,” she said.

Brendan Traynor, a co-founder of Renatus Capital Partners, the Irish private equity firm that invests in SME businesses, said the current uncertainty in markets is making it more difficult to price businesses accurately.

“Market sentiment this year is definitely not as hot as it was in 2021 but we’re still seeing a lot of activity at the moment. There was a lot of pent-up demand last year, which acted as a tailwind for deal activity and higher valuations,” he said.

“I think we’ll continue to see a lot of deal activity this year, particularly in the private equity space. However, the heightened uncertainty in markets means it is a lot harder to value companies. In volatile markets, buyers and vendors have to adjust their expectations on business valuations.

“At the same time, our strategy in Renatus is to offer a partnership to the companies we invest in, whether that’s as a minority or majority investor. We take a five- to seven-year view on any investment so we aim to be a strategic partner for any company rather than just a source of capital,” Traynor added.

The Renatus co-founder said the sweet spot for his firm is to invest in an SME company generating profits of €1 million to €5 million with a real ambition to scale and grow to the next level, either through investments in new infrastructure or via acquisitions. Since it was established in 2014, the firm has deployed almost €50 million investing in Irish companies.

“We look to back excellent management teams in companies that are operating in a sector where the market dynamics are very strong. Our pipeline is still very healthy right now despite the multiple economic challenges out there,” Traynor said.

“I think there is more uncertainty in certain sectors like consumer goods and travel. Those are very exposed to rising inflation levels and weaker consumer sentiment. But in other sectors like construction, tech and healthcare there’s still really strong investment activity.

“Overall, I would say we’re still very optimistic about the investment opportunities in Ireland. There’s some really great businesses out there and it’s never a bad time to invest in a great company.”

Source: Business Post

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