Intouch Autumn/Winter 2007-08

Why growth capital must also be intelligent capital

Once again private equity firms are providing increasing amounts of growth capital to entrepreneurs. But today’s ambitious business owners often need more than just funding.

They also require access to the expertise, international network and contacts of a private equity firm that can help to transform their companies to deliver faster growth. This is changing the nature of the growth capital business, emphasising the importance of scale.

There is certainly no shortage of growth capital on offer. Attracted by the prospect of high returns, buyout players, investment banks, hedge funds, public shells and family offices are all queuing up to invest.

What is in short supply, however, is capital providers that can add value through transformation across a number of dimensions, such as international expansion, mergers and managerial excellence. With many of today’s best opportunities to be found in the fastgrowing economies of Asia and other developing regions, private equity firms with ‘glocal’ networks are at a premium. Few can blend this with the rare ability to build working relationships that is the essence of growth capital.



“A growing number of companies need private equity’s resources, talent and expertise to help them succeed in becoming stronger in their markets,” asserts Guy Zarzavatdjian, the Managing Partner of 3i’s Growth Capital business in Europe, who takes over global responsibility from April 2008. “Often this is a question of becoming more internationally successful. This is a new challenge for an entrepreneur who is looking to enter a new market and one where he would benefit from the business knowledge and experience of a partner who has local visibility.”

How scale adds value and agility
In June 2007, 3i’s US team invested in Fulcrum, a leading hedge fund administration company. This investment is a good example of the emerging importance of private equity firms’ scale in adding value. Fulcrum is looking to expand from its North American base into Europe and Asia.

Having an international network of offices will enable 3i to help. Local staff can advise on such matters as finding office sites, recruiting local staff, navigating regulations and sourcing local advisers. In this case, Fulcrum has also chosen to appoint Akshaya Bhargava, 3i’s business process outsourcing specialist, as CEO. These areas are where 3i can use its broad geographic reach and sector knowledge.

Additionally, scale means that a private equity firm can provide a breadth of expertise and knowledge. 3i’s investment in SeLoger.com, France’s leading publisher of online real estate listings, directories and related information, was made possible by a combination of growth capital, buyout and venture capital-type expertise. The November 2005 deal was a highly leveraged minority investment in a late-stage technology company. This required buyout-type financing techniques and deep knowledge of the technology sector, as well of the growth capital skills of working in partnership with management. The December 2006 IPO on the Paris bourse followed a substantial uplift in
profitability and expansion in the workforce by more than 50%. The company is now the largest publiclylisted French internet company.

Building strong relationships
Growth capital investing requires a distinctive approach. As minority investors, growth capital providers have to persuade a company’s management, whose members are generally also shareholders, that they will be proactive partners and respect their independence. The cornerstone of any minority growth capital provider’s value proposition must be the building of strong relationships and joint visions with the owners of business.

Existing relationships can fuel a large number of deals. In 3i’s case, some 50% of the 12 growth capital investments made between April and September during 2007 have come from either proprietary sources or very small competitive fields. “It is about building relationships with entrepreneurs, gaining their trust and helping them to accept the fact that they will have more success with us than without us,” explains Zarzavatdjian. “This triggers a better knowledge of the investment we make, less competition for the deal and enough confidence to make sure that we will influence a business going forward.”



For 3i, the fact that it can be more flexible than other private equity firms when negotiating exit plans adds to the strength of the relationship. In the case of Alimak Hek, the Sweden-based, world-leading manufacturer of vertical access solutions for the construction industry, 3i maintained its investment for six years before exiting in January 2007. In this time, 3i was instrumental in the company’s expansion to Asia and the US, as well as in a significant increase in profits and an expansion in the workforce. Transactions such as these are showing business owners and their advisers how intelligent growth capital can accelerate expansion, creating far more value than they would be able to alone.

These successes demonstrate what the combination of strong international networks with distinctive partnership styles can offer. “It is about mixing ambition with modesty,” says Zarzavatdjian. “Being modest enough to work as a minority investor and ambitious enough to help the entrepreneur reach the next level.”

Growth capital on the rise (Image)

According to PricewaterhouseCoopers’ latest global private equity survey, compiled from a number of sources, almost US$29bn of growth capital was invested worldwide in 2005, up 31% on 2004.

Within Europe, 3i data shows this rise has continued, with the number of deals rising from 79 in 2004 to 162 in 2006, and the combined value of those deals climbing from €2.6bn to €4.6bn. To place this into context, growth capital activity rose from 23% to 37% of the European private equity market by volume during the period, and 11% to 16% by value.

3i classifies growth capital as capital used to buy equity stakes of less than 50% in private companies that are growing but at key points of change.

3i data on European deal activity also reveals a steady increase in deal amounts. While the average investment size was just €30m in the first quarter of 2005, it had climbed to €74m by the second quarter of 2007 (see chart). This goes hand in hand with the move towards adding strategic value.

Often, the businesses that require the type of help private equity can bring are larger businesses that have reached the point where they can no longer grow without either expanding internationally or making acquisitions.

3i has led the way in making bigger investments, as its investment model has changed over the last five years. It now invests in fewer minority deals but focuses on established, growing and increasingly international businesses.

This means it can be more proactive and selective. The acquisition of a 30% stake in Sistemas Técnicos de Encofrados (STEN), the Spanish provider of scaffolding systems for construction, in September 2006, was 3i’s first growth capital investment of more than €100m. Since then it has completed more €100m plus deals in Asia and North America.

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