Investment in European private equity is expected to hold its own in 2001, as European financial markets perform better than those in the United States and elsewhere, and a strong deal flow continues.
Last year was the fifth record year in a row for the European private equity market. European private equity firms raised e35 billion ($32 billion) last year and invested at least e27 billion, according to preliminary numbers released by the European Private Equity and Venture Capital Association and Venture Economics. In 1999, the industry raised e25.4 billion and invested the whole amount.
The asset class also performed well in 2000, with the top quarter of all private equity funds in all stages of investment showing an annualized internal rate of return of 33.3% since inception, which ranges from one to 20 years. (The returns are based on a sample of e69.8 billion of committed capital in 479 funds, of which 427 are mature, formed from 1980 to 1998.)
The 2000 results show an annualized 14.9% pooled internal rate of return of all private equity since inception of the funds. The numbers for buyouts are particularly strong, with an annualized internal rate of return of 18.8%. Venture capital funds also are performing well, with an annualized 13.7% internal rate of return since inception and the largest proportion of investment paid back to investors.
The report says last year's market conditions will have an influence on private equity performance, however, and a slowdown in the market is expected.
Help from report
But the market should get a boost from Gartmore Investment Management Chairman Paul Myners' report on U.K. institutional investment, which recommended that U.K. pension schemes invest more in private equity. The report said the British Venture Capital Association, London, should increase its educational programs to encourage debate about the asset class.
Mark Hawkesworth, senior partner of Baring Private Equity Partners Ltd., London, said Mr. Myners "has been less vehement in his support of private equity than he should be." He wanted the report to advocate creation of a separate asset class.
The most recent U.S. private equity firm to make the move into Europe is THLee Putnam Capital, Boston, which announced a joint venture with French entrepreneur Bernard Arnault, creating THLee Groupe Arnault, which will have offices in London and Paris.
Executives at the new fund, which will make private equity investments in Western Europe, hope to raise between $1.5 billion and $2 billion from both U.S. and overseas investors. Richard Trutanic, senior managing director at Groupe Arnault, had the initial idea for the fund and will be chief investment officer of the new firm.
His first mission is to recruit a team of European private equity professionals with extensive experience in the markets in which the fund will invest, including the United Kingdom, France and Germany. Mr. Trutanic has a group of four professionals in place so far, all from his Groupe Arnault business.
Messrs. Lee and Arnault will sit on the investment committee of the new fund.
Lee recently raised a $6.1 billion buyout fund in the United States, the largest private equity fund raised to date.
U.K., Netherlands funds biting
Meanwhile, pension funds in the United Kingdom and Netherlands have been increasing their allocations to private equity, said Will Schmidt, managing director of Advent International PLC, London. Pension funds from both countries "are more sophisticated" than those in other parts of Europe, and have been increasing their allocations to public equity as well, he said.
He said about 60% to 70% of the larger European private equity funds had some U.S. pension fund money. He added U.S. pension funds are more experienced investors in private equity and as they increased their allocations to the asset class, Europe "as the most developed market (outside the United States) was the first port of call."
The Bureau of Investments, Michigan Department of Treasury, Lansing, has 11% of its total private equity allocation invested in European funds. "We feel very comfortable with the allocation we have now," said David Turner, head of private equity of the $52.9 billion fund. It is unlikely the fund will increase its allocation to European private equity, now at about $900 million.
Most of the Michigan fund's European private equity investments are in middle-market and large-market buyouts, with a small amount in venture capital and technology-oriented investments, he said.
Edmund Truell, CEO of Duke Street Capital, London, and vice chairman of the BVCA, said his firm just started raising a new fund, Duke Street V, a few weeks ago and so far is getting less money from U.S. institutional investors than it has in the past.
"A lot of potential new investors are overallocated. It's harder to raise money," he said. For Duke's last fund, 43% of the money came from U.S. investors.
On the e650-million fund that Duke raised in 1999, it has had returns in the 30% range so far.
Exit strategy
However, Mr. Truell said, "as far as exits (from investments) go, we must be more creative," noting that the equity markets, while not in as bad shape in Europe as they are in the United States and Asia, are still having problems. "Up until a few weeks ago, (the owners) of those companies were clinging to their valuations.
Mr. Truell still expects to have the first closing on the new fund in April.
David Thorpe, a managing director in Friends, Ivory & Sime PLC, London, and chairman of the BVCA, agreed that "exits are more difficult" now. However, he said, "the public markets in Europe won't be as heavily affected (by the downturn in U.S. markets), so the private equity markets won't be hurt that much." He does, however, expect there will be fewer deals over the next several months.
Mr. Thorpe believes there are still some good technology firms for private equity investors "as long as they understand the technology." He said investors will have to be "more cautious on their entry and may have to wait longer to exit - they may have to wait four or five years."
Mr. Thorpe also said the private equity markets in France, Germany and Italy "are so underdeveloped now" that there is "more room for development long term" for investors in those markets.
Robert Wilhelm, managing partner of the e800-million technology fund of Nesbic Groep BV of the Netherlands, Utrecht, said it is possible to get some good buys in the technology area now. "The deal flow is less, but the quality of the companies is much better and the entry valuations are lower," he said. The fund still has a lot of money available to invest.
The fund had several companies ready to go public on European stock exchanges last year when "the IPO window closed," he said. "These are good companies. We're just holding them for a longer period now."
Cross-border mergers
Mr. Hawkesworth said Baring is focusing on cross-border mergers and acquisitions in the countries of the European Union, which he thinks have huge potential. "Companies can't be competitive as small players (in the Eurozone). They need to be bigger."
Baring raised a $300 million private equity fund a couple of years ago, which has a number of European and U.K. pension funds as investors, but no U.S. pension funds.
Baring plans to raise a new fund later this year. Although he acknowledges it is "a tough climate" in which to raise money now, he's hopeful U.S. institutional investors will participate. "We think Europe is still interesting to U.S. investors. It's an obvious market to move to if they want to diversify outside of the United States," he said.
James Murray, a partner in Bridgepoint Capital, London, which had been the private equity arm of NatWest Bank and was bought out by its employees when the bank was acquired by Royal Bank of Scotland, said U.S. pension funds have invested in the company's L2 billion ($1.4 billion) private equity funds.
It is now raising another buyout fund, with a target of e1.6 billion.
The company focuses principally on buyouts and is about 50% invested in the United Kingdom and 50% in continental Europe.
