With its half-century of history and £1 billion market cap, 3i is the listed behemoth of the UK private equity world. Its growth capital division, which accounts for roughly 40 per cent of the group’s business, manages £2 billion of assets and invested £990 million last year across the globe. The importance of growth capital to 3i was underlined this week as Michael Queen, who ran the division until 2007, replaced Philip Yea as group chief executive.
‘We have been building this business line, in its current form, for five years,’ says partner Steven Nicholls, who jointly leads the division with a particular focus on its European investments. ‘But it’s the heritage of 3i – it’s where we started off 50 years ago.’
Nicholls, whose idea of relaxing is keeping himself fit enough to go skiing and mountain-biking with his four teenage children, says 2008 was a ‘very active’ year for 3i’s growth capital business in Europe, with ten new investments and ten exits. These are minority investments in established mid-market businesses, the kind of businesses that might be buy-out targets except that they are usually ‘not for sale’. It’s an atypical model that Nicholls says has performed well, with ‘consistent private equity-style returns of 25 per cent [per year]’ across the past five years – and that’s without the use of private equity-style leverage.
‘Because we don’t use a significant level of debt in our portfolio – we are less than two times geared at EBITDA level across our book – the debt markets are not fundamentally impacting our business model,’ Nicholls claims. ‘We can still invest and get behind our companies.’
Unfailingly upbeat, Nicholls makes light of the fact that company valuations have fallen. ‘We benefit from the fact we only take minority stakes in businesses,’ he argues. ‘We are able to buy at a minority discount and when we exit, we are exiting alongside other shareholders so we exit a majority stake if not the entire business.
‘That’s not to say there hasn’t been a compression or reduction [in valuations] in the past 12 to 18 months, but we are fortunate in that we are buying at a discount to the market anyway.’
Another plus point, according to Nicholls, is that 3i can help portfolio companies make appropriate acquisitions at today’s lower valuations, building bigger and stronger businesses that will ultimately sell for a higher earnings multiple.
It sounds an attractive model if you have large amounts of cash to invest, particularly in today’s markets. Nicholls says it was an unusual strategy during private equity’s boom years, with investors preferring to have majority control, but ‘the industry is realising that debt is less available than it was and entrepreneurs and business owners are less keen to sell because they believe they are undervalued’.
Clearly, you’ll have to be a particular type of business to be able to take advantage of 3i’s growth capital offering. It doesn’t matter where in the world you are or what sector you’re in, but you’ll probably need to be worth between £75 million and £750 million, profitable and of course willing to sell a significant stake, usually between 20 and 40 per cent. Nicholls says 3i will also look at ‘structurally unprofitable’ businesses which are stuck in the wrong finance structure but essentially sound.
‘We put a hell of a lot of time and effort into our companies, bringing our international resources to bear across three continents. So it’s important that there’s enough skin in the game for us,’ he adds.