If the facts are to be believed, there’s never been a better time for ambitious companies to go on the search for expansion capital. The argument runs something like this: the relative resurgence in economic confidence over the past few years has enabled venture capital and private equity players to raise ever larger amounts of cash. While all this has been going on, debt packages have become more readily available, with the number of equity investment firms scouring the market for deals rising steadily. Those with a penchant for catchphrases might call UK Plc an ‘entrepreneurs’ playground’ at present.

Money is abundant – good companies aren’t

Certain professionals would partially concur with this statement. Simon Lord, director of corporate finance at investment bank Altium Capital admits that ‘there is significant private equity funding around chasing too few good quality deals. This increasing competition can help in securing more attractive terms for those leading the companies.’ According to Lord, the sectors that are currently attracting the most interest from the VC community are support services, healthcare, IT and leisure; all of which are consolidating and, as a result, are providing good opportunities.

However, despite their cash-rich nature, institutions are not dropping standards. In fact, as Lord is keen to point out, while venture capital investment across Europe increased 19 per cent to C803 million (£591 million) in the first quarter of 2005, the volume of deals completed actually fell slightly.

To Paddy MccGwire, managing director of corporate finance house Cobalt, the message is clear. ‘The odds are now very much on the company’s side,’ he says, ‘but you have to have an impressive management team and a strong product in a growing market.’ Businesses meeting these requirements may find investors scrambling over each other for a piece of the pie.

The key is to target institutions specialising in the appropriate markets and funding levels for your needs.

£500,000 – £5 million

Rise of the VCTs

Having collectively raised the best part of £500 million during the last tax year, operators of venture capital trusts (VCTs) are increasingly dominating the £500,000 to £5 million investment bracket.

Octopus Asset Management is one firm currently in the ascendancy. A comparative newcomer to the VCT scene, Octopus has rapidly developed a strong reputation, operating four trusts – most notably the two Eclipse VCTs.

In total, Octopus raised over £50 million for these investment vehicles last year – more than a tenth of that raised by the sector as a whole. While around 20 per cent of this money has been earmarked for investment in AIM-listed ventures, Chris Allner, the group’s lead fund manager, reckons VCTs are rapidly becoming ‘the funding source of choice for deals in which between £1 million and £4 million of private equity is needed’.

Through its Eclipse trusts, Octopus looks to back businesses ‘with established business models’. Loss-making ventures are not automatically precluded, however, and a broad range of sectors is targeted.

Recent deals reflect this approach, with an investment in early-stage consumer debt management hopeful TDX being counterbalanced by stakes in profitable marketing services group Gyro and asset-backed pub investment vehicle The Capital Pubs Company 2.

Allner expects to complete around eight investments in privately held companies this year, with further deals anticipated on AIM.

Fellow VCT manager Matrix Private Equity has also been busy of late and has around £85 million under management.

Like Octopus, Matrix invests across a broad spread of sectors, though its main focus is supporting management buyouts of ‘established businesses’ – an area few VCTs currently target. To be considered, companies typically need to be already profitable and generating annual revenues of more than a couple of million.

Technology hopefuls

VCT managers aside, the other significant group of investors with an eye on the sub-£5 million marketplace, are traditional venture capital firms. These organisations tend to be very large and international in focus (usually with a head office in or around Silicon Valley). Skilled regional investment teams are then recruited to identify early-stage opportunities in their local territories.

Alongside 3i and Apax Partners, Atlas Venture is a fairly typical venture capitalist. Graham O’Keefe, a senior partner at its London office, explains that ‘we tend to raise $600 million (£327 million) at a time and then invest this over a three-year cycle with $200 million being committed each year. Of that $200 million, around half will be directed toward opportunities in Europe.’

Atlas’ emphasis is very much on life sciences, communications and information technology and the deal size varies. Fellow venture capital player Benchmark Capital favours software, computing, semiconductors, communication and mobile technology.

Given their specialist focus and affinity for high-risk ventures, impressing these firms can be extremely difficult. Proof of good management and a strong product may not always be enough. ‘The most important thing is having global scope,’ advises O’Keefe. After all as Christopher Spray, a fellow senior partner at Atlas, reasons, ‘there is simply no point in aspiring to become the biggest spreadsheet software developer in the UK.’

£5 million – £ 20 million

Playing the long game

In the £5 million to £20 million investment bracket, Sovereign Capital’s profile continues to rise. Just last month the company concluded a £275 million fundraising for its latest fund – a healthy £75 million more than the private equity firm had originally hoped for. As a result, Sovereign has total funds under management of £450 million. It aims to complete five new deals a year while simultaneously conducting a similar number of follow-on investments.

Like those operating in the lower investment range, Sovereign’s managing partner Peter Brooks notes that the ‘market is competitive at present as there’s lots of money out there.’ This issue is compounded by the firm’s emphasis on popular mid-market sectors such as support services, leisure, healthcare, waste/environment and education.

In spite of this, Brooks suggests that Sovereign ‘is no typical investor’ and where he believes his charge differs from many of its peers is through its investment cycle.

Brooks and his team look to invest for between five and eight years, well above the traditional three-year average. Profitable, well-managed UK-based firms, boasting ‘compelling strategies’ are thus targeted and supported on an ongoing basis.

Recent investments have included a buy-in management buyout of training programme operator Pelcombe Training and an institutional buyout of Yorkshire-based pr
ep school operator Cliff & Silverwood. Both deals have helped further enhance Sovereign’s reputation within the industry.

The big name investors

While Sovereign focuses on the more traditional sectors, Cazenove Private Equity seeks out opportunities in the telecoms, media and technology industries.

Headed by chief executive Tod Bensen, Cazenove has around £230 million at its disposal (to back business in the UK and Western Europe) and looks to invest in tranches of between £3 million and £10 million. Despite its technology focus the fund also seeks out established businesses.

As with the majority of professional investment groups, Cazenove sees its role as being more than just an investor (although this remains the prime motivation) and therefore seeks to provide advice to its investee businesses relating to strategy development, routes to international expansion and board-level recruitment.

Then there is the name. Cazenove’s investment banking division is widely revered in the City and, in the case of Cambridge-based web technology developer Zeus Technology, was recently key to luring support from another private equity firm in its latest funding round.

‘It certainly helps that Cazenove has been with us for some time,’ Zeus director Steve Palmer acknowledges. ‘They have been through the rough times and were instrumental in getting us through the process this time too.’

£20 million and beyond

Biding its time

Having concluded an oversubscribed fundraising for its latest £255 million investment fund, ECI Partners now looks to have a busy time ahead.

The group specialises in deals valued at between £10 million and £100 million and will usually look to stake £5 million to £50 million in these transactions.

By investment executive Chris Warren’s own admission, ECI is a ‘slightly lower volume player’ than many of its rivals (completing on average five or six investments a year), yet he also claims to ‘place a lot of emphasis on securing the deals we really want to win’.

Support services, leisure and IT are the sectors of choice and ECI stands apart from some on account of its fondness for buy-in management buyout deals – transactions in which a management team is assembled and then brought in to oversee growth in the business acquired.

‘We have quite an extensive network [of potential directors] internally,’ Warren elaborates, ‘and the process tends to work as a virtuous circle.’

Proof of the pudding

Last but by no means least, Phoenix Equity Partners, which once again has its sights set firmly on the UK mid-market, is being viewed as something of a star performer at present following a string of profitable exits.

Headed by Hugh Lenon, Phoenix looks to invest up to £50 million in established firms, funding not only buyouts and buy-ins but providing access to expansion capital as well.

Close to £550 million is currently under management and businesses backed tend to have market valuations of up to £200 million. They operate in a variety of sectors including healthcare, retail, leisure, media and financial services.

Perhaps the greatest insight into Phoenix’s quality stems from its most recent exits.

Covenant Healthcare was sold in April for £170 million, netting a near £70 million profit for the group in just three years. Only a few months earlier high fashion shoe designer Jimmy Choo was sold for £101 million. In November 2001 Phoenix paid just £9 million for its 51 per cent stake.

Contacts:

Octopus – octopusinvestments.com

Atlas Venture – www.atlasventure.co.uk

Benchmark Capital – www.benchmark.com

Sovereign Capital – www.sovereigncapital.co.uk

Cazenove Private Equity – www.cazenoveprivateequity.com

ECI Partners – www.ecipartners.com

Phoenix Private Equity – www.phoenix-equity.com