Private equity in 2008

M&A’s Mark Dunne reports on how private equity lost its spark at the end of 2007 and why its problems will continue this year

M&A’s Mark Dunne reports on how private equity lost its spark at the end of 2007 and why its problems will continue this year

Christmas came a day early for Steven Horne last year. The financial director of ESS Steels, a Northeast-based manufacturer of engineered components for the oil industry, bought the company with his fellow directors on 24 December.

The deal was finally closed when the buy-out team secured the support of private equity firm Baird Capital Partners Europe. The firm invested £12 million in the transaction, which was complemented by £35 million of debt provided by Yorkshire Bank.

Not only has the private equity firm’s backing given the management team control of the business it will also finance the development of its products as well as extend its international distribution operations.

“The support of Baird will enable us to significantly develop our services across a broader geographical footprint,” Horne said. “In particular, its team in China will deliver hands-on support for product sourcing and business development in the region.”

Times are a changing

Baird has been investing in and supporting companies in the manufacturing sector for 35 years and ESS was part of more than £100 million it spent on eight deals last year. But 2008 will be a different story.

ESS was the last deal Baird closed with the firm’s UK managing director, Simon Havers, confirming that only one deal is currently “getting attention” from his investment team.

Havers added that Baird is not the only private equity firm struggling to get deals away. “I was speaking to a mid-market M&A adviser who told me he had four deals that had fallen at the heads of terms stage, all on the back of concerns about the economy.”

These experiences appear to be part of a trend. Research published by the British Private Equity & Venture Capital Association (BVCA) claims that 70 per cent of companies expect the UK’s economy to worsen in 2008.

“The clouds are gathering,” said BVCA chief executive Simon Walker. “This is not going to be an easy year for the economy or for private equity. The economic environment is becoming much tougher.”

Concerns of a slowdown in private equity activity were confirmed by a drop in the value of buy-outs in the final quarter of last year. According to the Centre for Management Buy-Out Research, quarter four was worth £2.9 billion compared to £15.4 billion in the previous three months.

Barclays Private Equity’s co-head, Tom Lamb, said the credit crunch has hit all new deal activity. “It has been the quietest single quarter for UK buy-outs since 2003, and puts the UK buy-out market back to 1997/98 levels on a run-rate basis.

“With around £35 billion raised by UK private equity funds in the last two years, this trend suggests it could take several years to invest the current generation of funds compared to the two or three years which has become the norm,” he added.

Things to come

Alchemy Partners’ founder Jon Moulton puts the problems in the private equity market down to a lack of available debt to support private equity investments. He also warns that 2008 could see some high-profile failures. “An almost guaranteed prediction for next year is that there will be some large leverage buy-out failures.”

However, Mark Wignall, a director at private equity group Matrix, disagrees. “I’m not sure over exuberance in 2007 will result in a high number of business failures.

“In hindsight, firms overpaid for several investments and it will take some time for the situation to be redressed so that value can be recovered. Last year saw a peak in activity, pricing and company valuations, and now we now have an overdue reality check that is starting to affect the volumes of transactions.”

While Moulton has cast doubt on the financing of larger deals, Wignall has observed plenty of interest in small to mid-sized deals. “There is strong activity in the mid-market at the moment because a number of sellers are being driven by proposed capital gains tax changes in April.

“This has brought a lot of opportunities to the market, but it’s still unclear how many will cross the finishing line by April. A number of these deals will fall down because buyers are beginning to worry about pricing and small buyers are thinking about what 2009 is going to be like and trying to factor in a revised price.

“I’m sure that once this settles down, possibly towards the end of the year, buyer and seller price expectations will start to level out and we will see some good buying opportunities.”

Marc Barber

Marc Barber

Marc was editor of GrowthBusiness from 2006 to 2010. He specialised in writing about entrepreneurs, private equity and venture capital, mid-market M&A, small caps and high-growth businesses.

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