The French winter holidays were a welcome break for private equity players in Paris, their bankers and lawyers because in the previous few years the market was so hot that many of them had to cancel their trips to Europe’s ski slopes and the toastier climes of the DOM-TOM.
In today’s market, however, the large LBO space has shut down just as it has in every other market, leaving large LBO houses with very little to do unless they are prepared to consider deals in the already strongly populated mid-market in France or to follow the example of US LBO houses and diversify into other investment areas such as real estate and infrastructure.
The next couple of years for the mid-market in France look set to mirror other markets like the UK where bank debt is scarce yet still available for select deals, mezzanine is making a big comeback and private equity houses are replete with funds that they really do need to invest.
“We’re not really seeing any large deals any more and until the banking market mess is sorted out the large LBO deals are just not getting done. Banks in France still remain skittish. Deals in the heated French market up to mid-2007 were structured with very few covenants and with financing that could only be paid back on a sale,” says George Pinkham, senior partner at
Some deals were structured that permitted target companies to defer payment of interest until the end of the loan, which is viewed as unwise because many companies might be unable to pay both the principal and the accrued interest when the loans mature. There is a sentiment that only time will tell if some of these companies default when they are required to pay the accrued interest.
“In the lower end of the mid-cap market deals are still getting done. At the high end of the mid-cap market there may be no deals for some sponsors,” says Pinkham. “I think it will be a mediocre year, but it is too soon to say if it will be a disastrous year. This year reminds me of 1992 to 1993 when the recession hit France and the LBO market completely dried up.”
“During 2008 I really don’t think confidence will return. I think we have a spoiled year ahead of us,” says Xavier Moreno, president of
The second half of 2007 in France was slow compared with previous quarters and people are still adjusting to the harsh realities of the buyout market as they are in the rest of the world, private equity players agree.
According to the CMBOR Management Buyout Review of 2007, after reaching a record value of €34.5bn in 2006, buyouts in France fell back to end 2007 at €24.1bn. Buyout numbers were also slightly down but at 224 this is the third consecutive year of deal volume being above 200. The average deal value declined to €112m in 2007 and there were 24 buyouts above €250m last year, exactly the same as the 2006 figure.
“There is a feeling that prices are still high relative to the leverage that is available in the new leverage paradigm. The few deals that have been closed over the last few months have paid full price because negotiations were entered into before the credit crunch,” says Charles Diehl, partner at
A closer look at a recently closed deal gives a good idea of how deals are being structured in today’s cooler market. In early February,
The €250m deal resulted in Industri Kapital securing a 70% stake in the company with the Lebraut family and management holding the other 30% stake.
Deals where key management or family shareholders are staying on in a company post-buyout is a growing phenomenon in France. “That scenario would not have been imaginable a few years ago,” says Diehl.
The Etanco deal structure includes €142m in debt, €36m in mezzanine and €30m in a capex acquisition facility and revolver, according to Christopher Masek, partner at Industri Kapital in London.
The debt multiple was 5.5 times EBITDA. “If this deal was in the market last June it would be have ended up being priced at a similar price, but the debt multiple would have been more like seven times EBITDA. Of the 30 or so bids, we were not the highest bidder,” says Masek. The deal was won on a set of intangibles, he adds.
The mezzanine was provided by Paris Orléans (the listed holding company of the French branch of the Rothschild family in France), AGF (Assurance Générale de France) and Northwestern Mutual, as well as the three banks in the deal, which are SG, CIC and Bank of Ireland. The Irish bank was the third bank to join the deal.
“There’s a lot of activity out there but there are fewer deals without a doubt,” says Masek. “What we are seeing is a lot of deals where companies are being primed for a quick sale. There is so much equity out there, which is a major difference from previous downturns, and that equity needs to be invested.”
The darling of the French market, the secondary or tertiary buyout space, is on hold right now, equity sponsors report. But the market is open for primary deals, corporate spin-offs and even the potentially challenging public-to-private market.
Under the French system, the Autorité des Marchés Financiers (AMF) does not allow conditional public-to-private deals whereby a sponsor might wish to embark on acquisition only if it attains 95% control of a company. The 95% is the threshold at which an acquired company can be tax integrated. Arbitrage players have effectively been able to block deals and hold buyers to ransom by acquiring a 3% or 4% stake in a company that is being taken private and have refused to sell unless the price is high.
“France is a peculiar country in the public-to-private area and there are a number of hurdles to doing deals. I would say that they are much harder to structure in France than in other countries,” says Pinkham.
Nonetheless, the sixth largest French buyout in France last year, according to CMBOR/ Barclays Private Equity/ Deloitte data, was the €935m (estimated) public-to-private acquisition of Générale de Santé (Santé Développement).
Some of the big-name sponsors in the French market are also focused on the mid-cap sector, but on companies that offer international prospects beyond the limited scope of the French market.
“My view is not only dedicated to France. What we are seeing is not very different in France from Germany and Italy,” says Dominique Senequier, CEO of
“To be international you really need at least €10bn of assets under management. AXA Private Equity has €22bn of assets under management,” says Senequier. “If you are a small local French or German player you cannot help your companies as well in the international markets.”
All of the companies listed in on France’s stock market index of leading shares – the CAC 40 – are internationally-focused businesses, and this trend is set to continue.
The range of sectors French private equity funds are focusing on could be typically in any other Western European nation, such as healthcare services, services for the ageing population and specialised food companies. The consensus is split on consumer-focused businesses, with some positive and some neutral.
“You can expect some deals of €300m or more in enterprise value in retailing and in business support services. Retailing hasn’t suffered quite as badly as in the UK recently,” says George Elliston, partner at Close Brothers in Paris.
Construction companies that focus on the French market may not be as appealing as those that focus on active export markets such as Spain and Eastern European countries because France is experiencing a construction slowdown. Some deals signed in 2007 in the French construction sector, including the €1.4bn acquisition of home builder Kaufman & Broad by PAI Partners, are among the heated market buyouts that commentators are suggesting macro-economic forces could impact on negatively.
Sponsors are also expecting a pick-up in deal flow in spite of the market’s current troubles. “After the financial crisis there will no doubt be more consolidation and financial services companies will start to outsource more of their business services and specialised IT services,” says Pascal Stefani, managing director at Advent International in Paris.
However, private equity professionals in France seem to be less pessimistic about any significant downturn in the economy.
“We are more confident here than our brethren in the US, the UK or Spain that we are not heading for recession in France. I think most people think it will take most of the year to work through the difficulties as we are having our share of the credit crisis,” says Diehl.
France’s economy is very much influenced by the state and the country has not experienced the house price booms seen in countries like Spain and the UK, for example, and is generally considered to be less susceptible to an economic slowdown.
“France doesn’t do as well as the UK in boom times but conversely it doesn’t do as badly in down times,” says Pinkham.
“Discussions are underway at government level to release company savings schemes to inject money into the economy. This could be as much as €10bn to help boost consumer demand,” says Diehl.
All eyes are obviously on the bank market this year. And there are some newcomers previously not seen in the French market, including Icelandic, Irish and Scandinavian banks. But the level of pricing is also being watched very closely.
Debt pricing on an A tranche is around 225bp now but would have nudged below 200bp before last June. However, some banks on the Etanco deal were quoting A tranche pricing in the range of 275bp, says Masek. Pricing on B tranches is around 275bp and the C tranche around 325b.
“It’s much harder work, longer work and you have to coordinate more banks in each deal. And it costs more. Today’s market is similar to 2003 in France when it wasn’t possible to get one bank to underwrite 100 % of the debt package. Deals are doable for debt needs in the range of €10m to €400m. The banks we are seeing that are active in the French market include Barclays, HSBC, ING, Italian banks and RBS,” says Moreno.
Terms are definitely moving in a bank’s favour in France. “Actually, it’s a good time to be out there as a leverage banker,” says Masek.
In the lower half of the French mid-market, that is enterprise values of €150m or less, the amount of leverage has not changed that significantly although it may have come off by one to one-and-a-half turns. Debt levels of about 3.5 times EBITDA are generally the basis of deals and are being structured on a 50/50 basis in terms of debt and equity.
The approach in the French market is all about fully syndicated clubs deals. On average, around four banks are joining forces on deals in the region of €200m.
“For a lot of people the bank club approach is a learning curve because for a lot of the younger guys they are used to the luxury of underwriting deals. However, it is only really in the last six years that deals have been underwritten in France,” says Diehl.
“The most conservative banks take the other banks down to their own level in today’s market,” says Patrice Verrier, partner at
Generally, President Sarkozy’s France is perceived to be a favourable economy for private equity. However, the youthful President, who believes in the pouvoir de marché or purchasing power, is not widely seen as a great friend of finance and would do without it if he could. That’s where the lobbying comes in.
“I think French politicians understand less about private equity than the British Government,” says Senequier. “The labour unions in France understand buyouts much better than the politicians do.”
Sarkozy’s proposed law on the mobilisation of the French economy could mean positive news for the French buyout market, if their ongoing lobbying of the Government, headed by trade association AFIC, is successful. “We think there could be paragraph on buyouts in this new law,” says AXA’s Senequier.
“For many years, we have advocated an approach where employees in companies, acquired in buyouts, have shareholding plans where they invest some money and the company adds a contribution too so that all employees can share in the capital gains. We have taken this approach in the last three buyouts we have done. AFIC, and most of my private equity colleagues, promote this idea and we are lobbying for a change in law to make it easier, as it is still a complex legal process,” says Moreno at Astorg Partners.
Early stage challenge
Is Sarkozy boosting French entrepreneurial spirit?
France is widely viewed as a country of entrepreneurs, after all that’s where the name came from. Technology whizz-kids, life sciences specialists and in recent years a growth in the amount of cleantech companies (despite France being a nation of nuclear power stations) have put France on success potential alert.
But the red tape and burdensome employment costs in France have traditionally made it a very challenging country in which to develop start-ups into viable profit-making businesses. And businesses with a global focus too.
President Sarkozy’s right wing centralised administration would appear to be boosting entrepreneurial spirit and giving the lifeline start-ups need with funds from France’s very particular wealth tax regime and through initiatives to reduce the social cost of employing the scientists and engineers.
Set up by the finance law in France in 2004 to support young companies that are very active in early stage R&D, the jeune entreprise innovante (JEI) scheme acknowledged that without some tax incentives, the country’s technology, life sciences and cleantech companies would never make it out of the university labs.
The 1789 JEI companies that took advantage of the scheme in France in 2006 have collectively benefited from €87.4m of employer contribution exemptions, according to the latest data provided by the Agence centrale des organismes de sécurité sociale (ACOSS).
To qualify for the scheme there are a number of requirements but essentially a company must be in its first eight years of research activity, employ fewer than 250 people and must comply with minimum research levels to be able to take advantage of employer contribution exemptions and discounts. For a country with one of the highest levels of social costs linked to employment, the JEI scheme is a welcome boost.
The Government has noted that the JEI scheme does not contravene State aid rules set out by the European Commission. However, other such schemes to boost France’s small to medium-sized or petite et moyenne enterprise (PME) marketplace is currently up for Commission scrutiny.
Basically, the French Government wants to allow wealth tax payers to invest in PME, instead of simply paying the tax to the State. While such tax payers do have the option to pay the tax to the French State – the wealth tax system is administered by an estimated 20,000 civil servants – or donate the funds to charity, many expect that tax payers will opt for investment in small companies and potentially generate a return if these businesses become profitable.
“The solution of allowing people to invest in PME as a way of limiting their wealth tax is an illustration of how the French are clever politically, saying they still have a wealth tax and are also encouraging investment in PME,” says George Elliston, partner at Close Brothers in Paris.
“France’s approach to wealth tax credit is being examined by the European Commission as a potential illegal State aid. If the French get over this hurdle then we’ll see a huge amount of funds driven by this development that will radically change the venture market in France,” says George Pinkham, senior partner at SJ Berwin in Paris.
As a result, VC players and market observers say that venture deal flow is becoming high quality in France on the back of a lot more funds available for enterprising businesses in France.
“Clearly, this is benefiting hugely life science companies as well as technology and cleantech companies,” says Jean Schmitt, managing partner at Sofinnova Partners in Paris. And the JEI scheme is triggering lots of new projects such as university spin-outs, he adds, but he also warns that these ventures are not a short-term fix to boosting France’s venture-backed economy.
This boost to early stage investment is crucial as VCs focused on the French market are gradually looking to later stages without really defining this strategy.
“It is absolutely true in France that lots of VC funds are looking at later stage investments because their LPs are demanding shorter holding periods,” says Schmitt.
“You don’t run a venture-backed company just in the French market. Because the economy is too small you need to take a global approach,” he says. “I have always said that France is a nation of entrepreneurs. Even with so many hurdles facing them, people in France still set up companies.”
“About 15 years ago, people used to think that France was a market but a lot of people have returned to France from the US and other countries and now know the standalone French market is small,” he says.
Now, wireless research is showing strong R&D prospects. And on the back of GSM technology (which is the French acronym for Groupe Speciale Mobile) a new generation of mobile telephony is being researched called LTE or Long Term Evolution. Perhaps it is telling that this acronym is in English. Also, mobile Internet research, which could mean sales leakage from other forms of activities such as cinema, television and fast food, is showing signs of strong development.
“I think the French VCs are also going to be investing more and more abroad, which is unlike the case for UK VCs,” says Schmitt.
They are said to be looking to neighbouring countries in Europe for investment opportunities. “Italy, Spain and Germany are just next door and there is clearly a limited amount of VCs to service all of those entrepreneurs,” says Schmitt.
While French VC funds have been increasingly generating funds over the last four years, the amount that they are ploughing into French businesses is decreasing, anecdotal comments suggest.
“In the coming years I think we will see stability in the numbers of LPs but a change in the names active,” says Schmitt.
“Europe’s markets just aren’t large enough and it’s very difficult to develop huge success stories. Where is Europe’s Yahoo or Google? Sometimes it’s not about an idea being bad, it’s just very difficult to get an idea adopted. It can work though. Look at Gemplus International, a French company leading the way in smart card chip technology that has been adopted all around the world,” says SJ Berwin’s Pinkham.