Nordic Lights are shining

The Nordic area last year reported record-breaking deal activity and a strong fundraising environment, as well as a gradually recovering venture capital industry. But with prices for buyout assets increasing dramatically, can the buoyancy continue? Patrick McCurry reports.

For the Nordic region 2005 was a highly impressive year in terms of buyout activity, with locally based houses reporting successful exits and some high profile acquisitions by international consortia, notably the US15.6bn acquisition of Danish telecoms group TDC and the US5.1bn take-private of Danish facilities services group ISS.

On the fundraising side it was also largely positive, with a number of funds reaching close, although one of the leading houses, Industri Kapital (IK), had to settle for less than its initial target as a result of problems in previous years. Generally the leading houses have been successful in diversifying their investor base, while local institutional investors have also spread their wings, looking to invest significant sums in funds outside the region.

To give an idea of the level of activity, last year IK, one of the region’s longest-established houses, made nine exits generating €1.9bn for investors and IK partner Michael Rosenlew says the house’s recent acquisitions are all doing better than their business plans. Among the acquisitions he highlights are several outside the Nordic region, such as the purchase of German tensioning products manufacturer DSI and France’s Bonna Sabla, a pre-cast concrete company, which it has combined with Consolis, a Nordic-based concrete company.

IK’s strategy of expansion outside the Nordic region has also been adopted by EQT, another leading Nordic house, although EQT’s non-Nordic activity has tended to focus just on Germany. Nordic Capital, however, restricts its main activity to regional transactions. There are also a number of smaller houses, such as Ratos, Altor and Segulah, which are regional or country focused.

All buyout houses have been helped in the last year or two by the positive economic climate in the region. In Sweden, Denmark, Norway and Finland there has been an economic upswing, fuelled by consumer demand and exports. The positive outlook looks set to continue, with Danish bank Nordea forecasting economic growth for the region of more than 3% in 2006. It does, however, believe Norway will not perform as well as the other three, with domestic consumption and investment falling slightly.

The benign economic environment, combined with the global trend of high liquidity in the debt markets meant there has been strong demand for assets by both Nordic-based and international houses, which pushed up buyout activity dramatically last year. According to Thomson Financial figures, private equity deal value in the region rose from US$9bn in 2004 to US£35.4bn last year.

One trend has been the sale of assets by Nordic-based houses to international funds. Among the international houses active last year were BC Partners, which bought Sweden’s Dometic, an industrial company formerly part of Electrolux, for US$1.4bn, and Apax Partners, which acquired Swedish healthcare company Molnlycke from Nordic Capital for US$1.2bn.

A lot of the attraction for international houses has been the high historic returns. “Returns have tended to be higher in the Nordic region, so if 3x money is regarded as a good exit in most of Europe, in the Nordic area it’s been perhaps 4x to 4.5x money,” says Mounir Guen, chief executive of placement agent MVision. He attributes this success to a number of possible factors, including a tradition of using lower levels of debt than elsewhere in Europe and the high quality of managers and private equity executives: “They put in enormous energy, take a lot of pride in their work and they seem to be motivated by more than the financial rewards,” he says.

Financial vs industrial

Some argue Nordic houses have been able to achieve high returns because they are more committed to helping portfolio companies improve the way they operate than in making a quick buck through financial engineering. Simon Wakefield, global head of acquisition finance, SEB Merchant Banking, says: “There’s a view that, historically, the Anglo-Saxon houses have been run by accountants who are more focused on financial engineering and so on, while the Nordic houses are more industrially oriented.” Another executive agrees, but says: “The notion that the Nordic houses are more focused on industrial management is also a useful marketing tool that they can use to win business and make themselves seem warmer.”

Wakefield says, however, that the Nordic market has not witnessed a significant buyout failure, which could say something about the approach of local houses: “Nordic houses are probably more supportive of a portfolio company if things go wrong, compared with international funds, which are maybe more likely to withdraw support earlier.”

Wakefield also sees the traditionally high returns provided by Nordic buyouts as caused by timing factors. He points out that the first Nordic private equity funds, like IK, Nordic Capital and EQT, were raised in the late 1980s and early 1990s, shortly before the economic downturn of the early 1990s. Investing their funds during and shortly after the downturn allowed them to pick up assets at lower prices. When they sold those companies in the mid to late 1990s, when the economy was much more buoyant, they made significant returns.

“It was a play on the economic cycle and because these houses were early adapters there was less competition. Also vendors were less sophisticated,” says one private equity executive, who also argues that the impressive returns made from exits in 2005 have also been a lot to do with timing: “Anyone selling in the last year or so looks clever because prices are so much higher than three to five years ago when the companies were acquired.”

Whatever the reason for the impressive historical performance, it certainly attracted interest from international funds. A few years ago many of the European buyout funds decided they needed a “Nordic angle,” says Thomas von Koch, senior partner at EQT. “Everyone wanted mid-cap Nordic assets and that meant these funds came under pressure to deploy capital here and have been buying from us, Nordic Capital and IK in the secondary market. Most of the assets we’ve offloaded have gone to US or UK-based houses.” Von Koch adds that although secondaries made up the largest proportion of deal exits in 2005 the market is becoming more ‘normal’ as stock markets around the region re-open and trade buyers return.

Active markets

In terms of the most active markets, it is Sweden and Denmark that stick out. For Denmark the TDC deal, when finally completed, is expected to be Europe’s biggest ever LBO and the second largest globally after the famous RJR Nabisco deal of the 1980s. A consortium of international houses is acquiring the Danish telecoms firm. In the other very large Danish deal ISS was acquired by Nordic house EQT and GS Capital Partners.

Although these two deals make the Danish figures for 2005 artificially high, there has nevertheless been a significant maturing in the buyout market there in the last couple of years. “Last year there was clearly a lot of activity in Denmark and the market there still seems to be bubbling,” says Klas Hillstrom, a director at 3i’s Nordic office, adding that the reason for the timing of the increase in activity is unclear: “The pan-Nordic houses have been active in Denmark for a few years now and so last year’s activity was probably partly due to those efforts paying off.”

Johan Bjurstrom, who heads ABN AMRO Capital’s Nordic office, says a couple of prominent buyout houses and strategic vendors, such as the Lego family holding company, have been disposing of assets in Denmark and that has fuelled activity. But he notes that more recently there has been an increase in trade buyers across the region, probably because of stronger balance sheets.

The Swedish market has always been the most developed of the Nordic countries and there are five to seven times as many Swedish-based funds than Danish. Historically Sweden has accounted for more than half the region’s transactions and, despite Denmark’s bumper year in 2005, most executives see Sweden as by far the most important market. Nevertheless, the high level of competition for assets in Sweden is leading some funds to look increasingly outside the country in search of less expensive assets.

Finland, meanwhile, has disappointed some. EQT’s von Koch says: “I expected Finland to produce a lot more deals than it has and I’m not sure why it was relatively quiet, although it’s true that it’s a much more introverted economy than, say, Denmark’s.” Unlike the industrially strong Sweden and Finland, or the outward-looking and trading economy of Denmark, Norway is regarded by many as the least mature market for private equity in the region and as an economy over dependent on commodities, notably oil and gas but also fish and minerals.

Things are changing and buyouts becoming more common, even outside the oil and gas sectors, but the number of deals is relatively small. Herald Hellebust, a partner at law firm DLA Piper in Norway, says: “Norway is much less developed in private equity than Sweden but a growing number of international players are taking an interest, particularly in venture investments related to the oil industry.”

While there are differences between the four Nordic countries, there is also increasing integration when it comes to private equity activities among the larger Nordic funds with a fund like EQT, for instance, having a Swedish team in Sweden, a Finnish team in Finland and so on. These teams can focus on local opportunities but can work together when needed.

Local relationships

The cultural and language similarities, particularly among Sweden, Denmark and Norway, and the fact that the Nordic business community is relatively small has meant local players have tended to control much of the private equity market. “Relationships are very important in this market and the Nordic players have tried to squeeze out international firms,” says one banker.

Another observer says UK or US houses come in and “do the odd deal” but local players dominate the market, apart from very large transactions. He says: “It seems that you often have one international house that seems to be active in the market at any given time. It used to be Doughty Hanson and perhaps now it’s BC Partners. But because these houses are pan European they’re thinking not just of Nordic deals but deals in Italy, the UK and so on, so they don’t have the same local focus as the Nordic houses.”

But Graham Oldroyd, who heads Bridgepoint’s Nordic operations, distinguishes between the international houses that do not have local offices and those, like Bridgepoint, that have set up shop locally. “There are a small number of international houses that have built up offices here who get on well with the Nordic-based houses, and others who fly in when they hear about a big deal. The outsiders bring particular skills and money but they don’t understand the culture, so can miss things in due diligence that a locally based player would spot.” He says each house has its own strengths: “We can offer things that the Nordic-based houses can’t, such as access to southern Europe, whereas they can perhaps offer more support if the deal is about growth in the Nordic region.”

When it comes to fundraising in the Nordic region there has been a significant evolution in recent years, with Scandinavian institutions increasing their allocation to private equity and diversifying away from the Nordic area. “Scandinavia has become a more important market for international funds raising money, on a par with Holland and perhaps even Switzerland,” says Mads Ryum Larsen, a partner at IK.

Mounir Guen of MVision says: “Historically, local institutions have funded local players but these institutions are increasingly global in their outlook and so while they’re still investing locally they’re putting in less than in the past in relative terms.” He adds that, unlike many parts of Europe, the Nordic region does have some extremely wealthy private individuals able to invest significant sums in private equity, such as the Wallenberg family, whose industrial holding group helped create EQT.

Larsen notes that in particular there has recently been a lot of activity by Danish pension funds, such as ATP, the public-sector pension fund, which is allocating over €1bn to private equity. “In Denmark, even though it’s a relatively small economy the pension funds are quite concentrated, which gives them the critical mass to take significant stakes in private equity,” he says.

As well as the LPs, the buyout funds themselves are diversifying their investor base, with the leading funds seeking to have roughly a third, or perhaps half of their investment from the Nordic area, and the rest split between Europe and North America. There is significant interest from LPs outside the region, says SEB’s Simon Wakefield: “People see the market as attractive because there have been a lot of good exits and also perhaps because it’s still seen as a bit less competitive than, say, the UK market.”

Fundraising issues

Last year was fairly busy for fundraising, although in February 2005 IK had to settle for around €825m, dramatically lower than its original target of around €2.5bn. The fund was launched in 2002. Observers put the difficulties in reaching its target down to a sense that IK was drifting strategically. It had encountered some problems in its expansion outside the Nordic region, such as a German investment that made a serious loss, and experienced the departure of key executive Harald Mix, who left in 2003 to set up another fund, Altor that went on to have a successful first time fund raising.

IK’s Larsen says all of the issues investors had with the house have now been resolved: “Most notably we returned €825m in 2004 and €1.9bn in 2005. We have also been active making new investments and the IK 2004 Fund is now 30% invested in five promising transactions. With the fund’s first investment Myresjohus being recapped at approximately three times the original investment the fund is off to a very strong start.” He adds that he is confident the IK’s next fundraising process will be very different from IK 2004.

EQT, meanwhile, raised €2.5bn in 2004 for its fourth fund and last December closed a €350m “opportunity fund” aimed at distressed companies in the Nordic region and Germany. The fund was oversubscribed by €100m. Nordic Capital and Altor are also believed to be seeking to close fundraising soon.

There has also been some fundraising in Nordic venture. Finnish fund Eqvitec is currently in the market and is expected to close soon with around €120m to €130m, while in Sweden Innovation Capital had its first close last year with around €70m and in Norway Technoinvest was active fundraising last year. Private equity investor CapMan is believed to be planning to fundraise for its technology team in the spring.

According to Mounir Guen, the Nordic region has particular expertise when it comes to mobile phone technology and life sciences. “There’s a lot of knowledge in the region and some very high quality professionals.” In life sciences, he highlights the importance of institutions such as Stockholm’s Karolinska Institute, one of Europe’s largest medical universities and responsible for 40% of Sweden’s medical academic research.

“The Nordic region is attractive because it has a very good technology base, partly thanks to the prevalence of large companies like Ericsson, Nokia and Telenor,” says Gosta Johannesson, a partner at Provider Venture, a Nordic venture capital advisory firm focusing on early and expansion-stage technology firms. He says that, unlike the venture activity in the Nordic region at the turn of the millennium, it is not now just about wireless technology but rather a broad base of technology. “We are rebuilding links with the large corporates like Ericsson and Telenor because their ties with venture firms were severed after the bubble burst,” says Johannesson: “We’re trying to work with those companies to take on technology ideas that they’ve been developing but which do not fit in with their core business, as some of the ideas may be able to be commercialised.”

He says the venture market has been stabilising in the last two years after the knock-back suffered following the crash. Last year opportunities to IPO venture companies began to emerge, with funds such as Eqvitec able to float a company on the Finnish stock market and the Swedish IPO market also offering opportunities. In the longer term Johannesson argues the Nordic region will be one of the best in Europe for venture investment. “The World Economic Forum ranked Sweden third and Denmark fourth in a competitiveness league table, while Sweden, Finland, Denmark and Norway were in the top seven in a table on innovation compiled by the United Nations Conference on Trade and Development.”

But there is concern, and this is something that applies to other geographical markets, about the rapid increase in prices of assets, partly as a result of the continued liquidity in the debt markets. ABN AMRO’s Bjurstrom says: “We’ve seen some deals in the region hotly pursued, which has ended up pushing the price to 10 or 12 times EBITDA. UK-based houses have mainly done this, perhaps because they’re used to paying higher multiples, although it’s also true that the companies they’re targeting often have high growth prospects. But then you also seem to have quite a lot of companies selling for around seven times EBITDA, so there’s quite a gap between the two.”

Graham Oldroyd of Bridgepoint says: “I wonder what would happen if there were a couple of high profile failures of portfolio companies. We’d probably see the debt markets being far less open.” 3i’s Hillstrom argues liquidity in the market has stimulated a lot of supply: “A lot of people are trying to sell assets at the moment and we’ve perhaps reached the point where the market is saturated and the quality of supply is going down. That means there is more hesitation among prospective purchasers but there would need to be something major in the macro economic front for the market to really take a dip.”

Another risk is the currency issue, with Finland inside the euro but Denmark and Sweden outside. The Swedish krone is a floating currency and tracks the euro, but not as closely as the Danish currency. “There hasn’t been any problem so far but things could change if the Swedish krone were to get out of kilter significantly,” says Oldroyd.

Future returns

As for future returns, opinion differs on whether they will be as good as those of the past. IK’s Michael Rosenlew says he looks at 2006 with mixed feelings: “There will be continued M&A activity but even with low interest rates prices are high and the question is whether they’re now too high, whether we’ve reached the ceiling.”

Having voiced that caution, he notes there is still significant restructuring and consolidation to take place in the region, which means there will be deals to be done. “Higher prices probably means a lower IRR but that trend is probably a natural one in any case, given that the Nordic market is now a maturing one. I don’t think we’ll see the very high returns of the past now that we have professional sellers and more competition among buyers,” he says.

The professionalisation of the market is a trend also highlighted by more packaging. For example, more deals appearing with vendor due diligence and financial packages already in place. When Nordic Capital sold Ahlsell, the distributor of installation-related products, to Cinven for a reported €1.4bn the financing was already in place before the deal was completed, and the package was transferred to the new owners.

Thomas von Koch of EQT says: “We’ve been seeing a lot of innovation and aggressiveness, with the banks saying it doesn’t matter who buys a particular asset because they already have the financing package in place. That kind of commoditising of private equity is the sort of thing you see at the top of a cycle.”

Nevertheless, he believes in the coming years returns from Nordic investments will be higher than the European average, though not necessarily as good as in the past in absolute terms.

“Returns will probably be a little higher for Nordic-based houses than for the international funds, simply because no matter how well Nordic people speak English you’re always at an advantage as an investor if you’re a native and can understand the nuances of what is going on,”

he says.