The mood is upbeat once again in the European private equity sector. After a more pessimistic feel among PE investors in 2012, more deals are anticipated this year, especially in Scandinavia, Germany and even CEE2. Really big transactions are still expected to be the exception however, partly because the economic situation remains uncertain, with Spain, Portugal, Italy, France and Greece even likely to continue to experience a slight decline.
Thus, despite more liquidity in the market, debt financing will remain difficult, leading to no spectacular increases in purchasing prices. All in all, in light of the difficult economic context, two thirds of the 1,200 European executives surveyed are of the opinion that the business model of PE companies needs to be examined and adjusted to fit the new market environment. These are the key findings of the new "European Private Equity Outlook 2013" study by Roland Berger Strategy Consultants, outlining main expectations for the PE market in 2013.
Development of private equity M&A market in 2013 – The number of M&A deals with PE involvement is going up
The mood in the European private equity market is slowly but surely picking up. Since the overall economic prospects are expected to remain unchanged, this can be attributed to improvements in financial markets and a more positive development of the euro crisis. Currently, 52% of those surveyed believe the number of M&A transactions with PE involvement will go up compared to last year, especially in Scandinavia (+2.7%), Germany (+2.4%), Poland (+1.9%) and overall in CEE (1.5%), whereas a slight drop in market activity is only expected in those countries struggling most with the euro crisis – more specifically Greece (-1.0%), France (-0.7%), Spain/Portugal and Italy (-0.6%).
In terms of targeted industries, investors expect most activity will take place in pharmaceuticals and healthcare (54%), consumer goods & retail (51%), energy utilities (41%) and IT & telecommunications (41%). In the upcoming years, these sectors promise either stable growth or an increase in the number of transactions, thus providing private equity companies with the opportunity to acquire profitable targets. At the other end, a low number of PE transactions is expected in the building/construction and automotive sectors, particularly hit by the financial crisis.
Analyzing deal sizes, large transactions exceeding EUR 500 million will most likely remain the exception in 2013. The mid-cap segment is hence forecast to dominate, as 91% of the respondents expect most deals to have enterprise values of less than EUR 250 million and 59% even below EUR 100 m. This is not very surprising however, since many of the deals are expected in the CEE area, where values most often do not exceed these caps.
Regarding main growth drivers of the PE M&A activity, the economic outlook is considered to be the most relevant factor (26%), followed by the availability of attractive acquisition targets (25%) and development of the euro crisis and financial markets. With no significant changes expected in the economic outlook and the euro crisis, a substantial improvement to boost the sector could only come from renewed access to attractive acquisition targets and a slight improvement of the financial markets.
Key priorities and challenges for private equity investors in 2013 – Debt financing will be more difficult
Considering the relatively low market activity, PE investors will most likely dedicate their efforts to developing portfolio companies. Investments and divestments are only expected to be done opportunistically, while fundraising and extension of funds are not really in focus. Thus, value creation within the holding period becomes a top priority for PE funds in 2013, as only between 1 and 2 out of 10 private equity investors will continue to raise funds or start new fundraising activities.
In fact, with regards to fundraising, 57% of the participants anticipate more competition in this area, and 37% expect no changes. Thus, with only 5% expecting an ease in fundraising, competition is expected to be fierce, with many contenders likely to fight over limited available new funding. Moreover, experts believe the availability of debt financing will continue to be difficult. While asset-based growth financing (CAPEX, working capital) is not expected to be under as much pressure as other deal financing, banks are still reluctant to agree on recapitalizations and finance leveraged buyouts.
Under these conditions, targets' attractiveness and purchase price expectations will be decisive for the number and size of M&A transactions. The survey participants expect that at least the attractiveness of targets will rise, with 35% of them anticipating that more appealing targets for investment will be available in 2013. However, the overall situation is still uncertain for 45% of respondents, and one-fifth of them are even pessimistic in this area. Additionally, no significant reduction in purchasing prices is expected compared to last year.
Sources of acquisitions will mainly be major shareholdings in family-owned businesses (46%), carve-outs and secondary buy-outs (43% in each case), while listed companies going private rank far behind.
For PEs looking to make an exit, strategic investors (23% of responses) will make up the majority of potential buyers, closely followed by exit options via PE companies as well as dual or triple tracks (all at approx. 20%). This is not surprising, since interesting targets for PEs are often even more interesting for strategic investors due to additional synergy levers that the latter could obtain a lot easier (usually, PEs are able to create synergies only in cases of several acquisitions leading to sector consolidation).
Private equity business model – Where to?
Two thirds of the investors believe that the PE business model must be examined in terms of their future sustainability, as the financial crisis showed us that certain adjustments are necessary. More concretely, passive portfolio management is no longer sustainable over the long term, since purely financial engineering is no longer enough to create additional value, and only successful management of portfolio companies will lead to profitable divestments in the future. Thus, 96% of private equity funds consider they should take the opportunity and enforce a more active approach to managing their portfolio companies now, as they need to adjust for the new market conditions and thereby become better equipped to deal with future crises.
Under these circumstances, as PE investors will focus more on developing their portfolio companies in 2013, strategic and operational actions aimed at improving performance are expected to have the best chances of success in the coming years. More concretely, implementing strategic actions such as penetration of new markets, product portfolio enhancement, etc. are seen as top priorities for 39% of the respondents, while continuous operational actions such as cost cutting and outsourcing can tap additional potential to improve profitability. At the other end, financial actions such as refinancing or recapitalization are relevant for only 26% of those surveyed, as their effect on value enhancement is still expected to be very limited.
Conclusions – Selected comparison of PE Outlook 2013 vs. PE Outlook 2012
To conclude, participants feel more positive about market developments in 2013 compared to last year. Whereas 73% of respondents had anticipated for 2012 either decline or stagnation, the mood has picked up this year, as most of them (52%) expect an increase in M&A activity with PE involvement over the course of 2013.
Practically no changes were recorded in the ranking of industries with PE investor involvement in 2013 compared to 2012, as Pharma/Healthcare and Consumer Goods/Retail seems to remain on top of the list of most PE representatives. Also, no significant changes are anticipated in the expected range of enterprise value between 2012 and 2013, since deal size remains small, with up to just EUR 100 million in transaction value.
All in all, although the mood is slightly more optimistic and an upsurge in activity is anticipated, no spectacular changes are envisaged in the PE market in 2013 compared to 2012. Nevertheless, news of improvement, regardless how scarce or marginal, is still good news, and while adjusting their business model to the new market context and paradigm, PEs should just keep the chin up!
Read the full report in pdf document attached.