The economy is generally regarded as being in a pretty healthy state with a combination of steady growth and a low rate of inflation. Interest rates remain relatively low and are forecast, in the long term, to fall. The dot.com phenomenon has significantly depressed valuations of the companies in what is now deprecatingly called ‘the old economy’. Banks and venture capital companies are flush with cash and are apparently keen to invest. The only blot on the landscape (ignoring recent concerns about the effect of the Chancellor's spending plans) is the high pound. Therefore, management teams of strongly performing ‘old economy’ businesses could understandably believe that now is as good a time to do an MBO or MBI as there has ever been.
However, looking at recent statistics for MBO/MBI activity, the indicators suggest, rather surprisingly, that overall it is not such a good time. In 1999, only 31 MBO/MBI transactions in Yorkshire and Humberside were recorded by the Centre for Management Buyout Research compared with 66 in 1998. Although the figures for the first quarter of this year suggest record levels of activity, with 13 deals - valued at £528 million - being completed, closer inspection suggests something different. In the first quarter of this year three large public to privates (Waddingtons, Evans and Allied Textiles) were announced. Remove these from the statistics and the picture appears far less rosy.
Although the national trend for MBO/MBI activity in UK regions has generally been downwards, it is notable that the decline in Yorkshire and Humberside has been more pronounced. Some commentators seeking to identify a specific reason for this decline have attributed the fall to the departure of a number of leading deal-makers from the Leeds business community. Whilst, undoubtedly, Leeds have in recent years lost a number of talented individuals who could act as a catalyst to a deal, I think this view is overly simplistic in approach. What this view fails to recognise is, that in a relatively short space of time, the MBO/MBI market place has, and is continuing to, experience some significant structural changes.
The nature and level of activity on the Stock Exchange will always ultimately influence the MBO/MBI market place. The continuing lack of appetite amongst institutional investors in smaller to medium sized companies, particularly in the ‘old economy’ has largely removed a listing as an exit opportunity for a private equity house. This makes private equity investors more focused on the opportunities for and the likelihood of a trade sale and, by implication, more selective in the type of MBO/MBI that they are prepared to invest in.
The flight to the FTSE 100 has not been all bad news for the MBO/MBI market place as it has opened up public to privates. However, these transactions are by nature more complex and, as a number of institutions and professionals have found to their cost, considerably harder to complete. The public to private market is, however, finite and this means that the more obvious candidates have already had the rule run over them by a number of private equity houses. The limited market, coupled with the costs and the risks associated with such transactions, seems to dictate that private equity houses are likely either to gradually drift upmarket in terms of the value of the transactions they will pursue or seek the one off opportunities in sectors where they have specific expertise. A number of public to privates have, in addition, been able to exit the market on the back of debt simply because sentiment has swung so much against them.
Finally, the influence of the headlong pursuit of dot.coms and technology stocks over the last six to nine months with the perceived dramatic growth opportunities has also cast a shadow over traditional businesses. Investors are guided by sentiment and, if the institutions on the Stock Exchanges are turned off traditional businesses, this inevitably affects the willingness of private equity houses to invest in such businesses.
The enthusiasm of private equity houses for MBO/MBIs in the £10-£30 million bracket has been waning for sometime. As a consequence of this trend and the pursuit of dot.coms and high technology stocks the traditional regional market place has become like the Marie Celeste. It is therefore not surprising that we have experienced a fall in the level of activity.
You might in the past have seen the deal makers reversing this trend but even their position in the market place has changed. The major accountancy firms and those law firms that have gone ‘national’ are no longer as wedded to the performance of their region as once they were. With national reporting lines and responsibilities there is less interaction with their fellow ‘regional’ partners and as a consequence less cross-pollination of ideas and opportunities. In a buoyant corporate finance market where M&A activity has been strong, there is probably also less activity and, possibly, enthusiasm, within the professional community to invest time in creating deals.
The combination of a lack of investor interest and a lack of enthusiasm on the part of the professional community is a serious impediment for the market.
In the absence of specific encouragement, the MBO/MBI market is far more dependent on managers spotting the opportunity and being determined and ambitious enough to pursue that opportunity. However, we are also finding that there is far greater market concentration occurring in a wide range of sectors through the process euphemistically entitled ‘globalisation’. This has to an extent affected managers' confidence in their ability to go it alone, particularly with significant debt on board. This market concentration is also being fuelled by the e-commerce revolution which, despite its faltering steps at present, has resulted in almost every business questioning its ‘modus operandi’ and looking to the future with a degree of uncertainty. If you are an ambitious management team then in the current environment a well financed start up without historic baggage can be seen as an attractive opportunity.
So is the MBO/MBI market in terminal decline? Probably not, but what we are experiencing is a market reaching maturity.
MBOs and MBIs are no longer the only game in town for private equity houses, managers or professionals. There is now greater diversification in the corporate finance market place than there has perhaps been for 20 years and although MBOs and MBIs, whether in the form of public to private or private companies being sold, will continue to represent a significant market place I doubt it will ever be the dominant place that it was in the 1990s.
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