A Quick Guide to Venture Capital by Apogee Accelerator Group
Capital_Insights_Issue_DE0396
1. Capital InsightsHelping businesses raise, invest, preserve and optimize capital
Q22013
on new products,
strong partnerships and
capital prudence
Fighting
Intellectual property:
wise ideas
The distressed debt debate
The Nordics:
northern star
3. For more insights, visit www.capitalinsights.info where you can find our latest
thought leadership including our market-leading Capital Confidence Barometer.
Joachim Spill
Transaction Advisory Services Leader, EMEIA
(Europe, Middle East, India and Africa) at Ernst & Young
If you have any feedback or questions, please email joachim@capitalinsights.info
In spite of better news on the M&A front — the total value of Q1
2013 mega-deals (those worth more than US$10b) was up 21.8%
compared with Q1 2012, according to Mergermarket data — it is
clear we are still living in demanding times.
Recent data from the European Union’s statistical agency, Eurostat,
bears this out. The Eurozone area sank further into recession in Q4
2012, it says. Meanwhile, OECD data has revealed that India slowed to
its lowest economic growth rate in a decade over the same three-month
period. With this in mind, corporates need to start looking for innovative
approaches when it comes to their own capital agenda. In this issue of
Capital Insights, we explore how you can use inventive and creative ideas
to find new sources of capital and help grow your business.
Raise your game: With banks still retrenching, corporates need to
look for new sources of funding. We investigate whether alternative
financing can fill the gap left by banks (page 35). In the Capital Insights
debate (page 24), we examine the rise in distressed debt funds across
Europe with four notable members of the industry. We also explore how
companies can value their intellectual property and use it to raise capital
(page 32). Meanwhile, we discover how the four largest Nordic countries
have stayed ahead of their European neighbors (page 28).
United front: In times of uncertainty, collaborations can give
businesses a clear advantage. In an in-depth and exclusive interview
on page 14, Pfizer CFO Frank D’Amelio talks to us about the power of
partnerships and creative business deals. Our feature on joint ventures
on page 10 examines how these alliances can help you invest capital,
mitigate risk and enter new markets. And on page 20, we look at how
airlines are teaming up to overcome challenges in the industry.
While the recovery in M&A lifts the spirits, significant challenges still
lie ahead. For those looking to raise, preserve, invest or optimize capital,
an open-minded approach is more important than ever. I hope this issue
of Capital Insights provides you with much food for thought.
Different
strokes
www.capitalinsights.info | Issue 6 | Q2 2013 | 3
5. Regulars
06 Headlines
The latest news in the world of
for your business.
07 Deal dynamics
Ernst & Young’s Pär-Ola Hansson
08 Transaction insights
equity (PE) exits. How and where are
27 The PE perspective
Ernst & Young’s Sachin Date on why
PE’s built-in focus and experience
38 Moeller’s corner
39 Further insights
A look at how Ernst & Young’s regular
your business the edge.
32Intellectual
property
Nordics
28 Alternative financing
35
On the web or on the move?
Capital Insights is available online and on your mobile
device. To access extra content and download the app,
visit www.capitalinsights.info
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Corbis/MikeTheiss/NationalGeographicSociety
www.capitalinsights.info | Issue 6 | Q2 2013 | 5
6. Headlines
Africa on the rise
M&A activity and values in Africa are showing
a resurgence. After a quiet first half in 2012
brought 92 deals, the second half saw 105
deals. And while deal numbers in 2013 have
been muted, with 29 in Q1, values have sky-
rocketed. The US$18.3b recorded in Q1 is the
highest quarterly value since Q1 2010. South
Africa continues to be the continent’s M&A
hub, contributing just under half (14)
of Africa’s deals in the first three months of
2013. Corporates are also gaining confidence.
Mergermarket’s Deal Drivers Africa report
revealed that 75% of those surveyed expected
M&A to increase in 2013.
Divest with caution
The desire to divest is rising according to
Ernst & Young’s Global corporate divestment
study. It found that 77% of executives plan to
accelerate divestment plans over the next two
years. However, the survey also discovered that
corporates’ rationale for embarking on a divest-
ment is not always strategic. The key factor
determining whether a business stays within
a company portfolio, for almost six out of 10
respondents, is whether an asset dilutes or en-
hances earnings per share and how it performs
against financial benchmarks such as return
on capital employed. Despite this, the survey
points out that businesses that adopt strategic
practices will extract greater value from a sale.
Media on the move
Large-scale media M&A deals are on the way
back. The first quarter of 2013 saw 111 deals in
the sector worth US$48.9b — a figure more than
double Q4 2012’s US$16.1b. Major deals an-
nounced so far this year include the US$21.9b
acquisition of the UK’s Virgin Media by Liberty
Global, and Ukrainian investment company
Group DF’s US$2.5b buyout of U.A. Inter Media
Group. Indeed, the opening quarter of this year
has seen a number of transformational deals
announced across a variety of sectors. This
is a sign that corporates could be looking to
start spending the cash that is on their balance
sheets. Those looking to divest businesses, par-
ticularly in the media sector, should take note.
Completion times rising
Corporates are playing a waiting game when it
comes to finalizing takeovers. Ernst & Young’s
latest M&A Tracker shows that deal completion
times rose to an average of 58 days in the
final quarter of 2012, up from 53 days in the
previous quarter and 48 days year on year.
One factor that is behind this rise is more time-
consuming regulation procedures, which are
slowing down the dealmaking process. This has
been borne out in India where, in February, the
executives of drinks giants Diageo and United
Spirits met officials of the country’s fair trade
regulatory body, the Competition Commission
of India. This was to discuss clearance for the
companies’ proposed US$2b tie-up, announced
in November 2012. For more on regulation in
deals, visit www.capitalinsights.info.
clGettyImages/H3nn1n6tcGettyImages/U.BaumgartencrGettyImages/cranjam
Engage the activists
Activist investors are set to play a big part
in the corporate world again this year after
coming to greater prominence in 2012. Last
year, activists launched 219 campaigns against
US companies they deemed undervalued,
according to research from FactSet Research
Systems. This is the highest figure since 2008,
and shareholders have assumed more power in
2013. In March, the result of a referendum in
Switzerland saw voters back curbs on corporate
wages. These measures included giving
shareholders a binding say on corporate pay
and having annual re-elections for directors.
With this in mind, corporates should be well
prepared when in conversation with company
stakeholders. For more on getting the M&A
message right, see Deal dynamics, page 7.
Japanese IPO boom
Japan is topping the charts in terms of Asian
IPOs. Companies who have listed there so
far this year have raised a combined total of
US$1.9b — more than in Singapore, Hong Kong
and Australia together, according to
Bloomberg. Data provider Dealogic now ranks
Japan second in the world in terms of funds
raised, a position it has not occupied since
2006. The outlook for the rest of the year is also
positive. Japanese equity underwriter, Nomura,
said in January that it believes the country will
see the highest number of IPOs for six years. In
the bid to raise fresh capital, corporates should
consider looking east when deciding on the
options of where and if to float. For more on
Japan and IPOs, visit www.capitalinsights.info.
Capital Insights from the Transaction Advisory Services practice at Ernst & Young
7. E
ven the best story falls flat if you
tell it incorrectly. The same is true
for M&A deals. On top of this, the
audience to whom you’ll be selling
the deal is broad, diverse and, sometimes,
hostile. From shareholders to regulators — via
the markets and the media (both social and
traditional) — there are many willing to shoot
down a deal if it isn’t explained well.
Some deals have even collapsed due to
corporates not getting the right message
across to the right stakeholders. This
is particularly true in a time of growing
investor activism — a 2013 report from
US firm Cornerstone Research found that
lawsuits on behalf of shareholders were
filed in 96% of M&A deals valued at more
than US$500m.
When companies experience uncertain
times, preserving capital takes precedence
over investing it. Even though corporates
have an estimated US$7.8t on their balance
sheets, M&A volumes fell by 12% in 2012
year on year, and the corresponding total
of announced deal values fell by 9%,
according to figures from Ernst & Young’s
M&A Tracker. With figures such as these in
mind, selling the deal to key stakeholders
upfront becomes all-important.
So, how can corporates master their
M&A message?
Companies must clearly explain the
deal’s purpose — be that geographic growth,
gaining new technology or adding product
lines. Showing the strategic rationale builds
a spirit of trust and lets stakeholders see
how the deal could benefit them in terms
of total returns.
deal to stakeholders has never been more important
When German software company SAP
bought US cloud-computing firm Ariba for
US$4.3b in May last year, the company’s
Co-CEOs Bill McDermott and Jim Hagemann
Snabe were clear about the deal’s strategy.
“Cloud-based collaboration is redefining
business network innovation, and we are
catching this wave early,” they said. “The
addition of Ariba will deliver immediate value
to our customers and provide another solid
engine for driving SAP’s growth in the cloud.”
In addition, corporates need to be
transparent with stakeholders about what
is coming before it happens. A September
2012 report from law firm Schulte, Roth &
Zabel (SRZ) found that 50% of corporate
respondents believed that active dialogue
with shareholders was the most effective
tactic to combat activism. Corporates
and shareholders alike also agree that
staying out of the media is best for both
parties. In the same SRZ report, 78% of
survey respondents thought that, most of
the time, activists and corporates worked
co-operatively without receiving media
attention. Disputes that appear in the media
can often badly affect the company’s value.
Finally, corporates need to control the
message — particularly in a world of 24-hour
news. Keeping a tight deal team is vital.
A 2013 report from Cass Business School
found that for the 2010—2012 period, 88%
of deals complete when there is no evidence
of a leak — 8% more than when a leak has
been suspected.
When corporates are selling their deals
they need to look to the three Ts — trust,
transparency and teamwork.
Deal dynamics
Pär-Ola Hansson
Pär-Ola Hansson is EMEIA Markets Leader,
Transaction Advisory Services, Ernst & Young.
For further insight, please email
par-ola@capitalinsights.info
Mastering
message
the
7
8. Transaction
insights
Asia
private equity outlook
Start
0 500 1,000 1,500 2,000
2012
2011
2010
2009
2008
2007
Number of deals
1,869 deals
1,197 deals
860 deals
1,538 deals
1,710 deals
1,553 deals
Total number of exits by year, 2007—2012
Capital Insights
9. Exit strategy
A breakdown of PE exits reveals that, while
the proportions of some exit-types such as
SBOs are rising, PE is still having trouble
selling its businesses by any method. IPO
exits, for instance, fell from 136 to 118 year
on year in 2012, reducing their proportion
of all exits to just 7.6%. IPOs are still
suffering in 2013, as Q1 figures show only
15 public exits, the lowest number since Q1
2009. Trade sales, by contrast, still remain
the most popular exit method, occupying
64.3% of the exit market for 2012 and
67.8% in Q1 2013. However, the number
of trade sales in Q1 — 219 — was the lowest
recorded for two years. SBOs accounted for
27.6% of exits in Q1 2013, increasing from
its 26.1% share in Q4 2012. However, like
trade sales, the actual number of SBOs —
89 — is the lowest seen since Q1 2010.
While it has been a relatively slow start
to 2013, time will tell whether exits pick up
as the year progresses. Undoubtedly, this is
a tough period for exits meaning corporates
under PE control will need to work harder
than before to achieve an IPO. And although
SBOs in particular are gaining more of the
share of PE exits, they and trade sales need
similar corporate diligence to succeed.0 300 600 900 1,200 1,500
201220112010200920082007
Number of deals
Key
Trade sales
Secondary buyouts
IPOs
2
1
3
India
+171%
Norway
+33% Spain
+27%
Top three trade sale growth areas
in 2012 by percentage increase
(10 deals or more)
Trade sales
Corporates looking to buy from PE houses
should not be disheartened by the fall in
trade sales (see graph above). A closer look
at geographic splits reveals that, while trade
sale volumes in the top four markets — the
US, UK, France and Germany — are down
12.9% year on year, the BRIC economies
are seeing a boom in exits to cash-rich
corporate buyers, with a 28% rise on 2011’s
numbers. India is the standout performer,
having seen year on year corporate exits
worldwide nearly treble from 7 to 19.
It isn’t just emerging economies where
acquisitive corporates should be looking
for PE deals — more developed areas can
provide platforms, too. For example, the
main countries in the Nordic region —
Sweden, Denmark, Norway and Finland —
contain opportunities. After hitting a trade
sale low of 36 four years ago, 2012 saw the
region’s exit market recover with 54 deals.
Norway in particular performed well, adding
a third more deals to its total in 2012
compared with 2011. For more on Nordic
PE and the area’s M&A market in general,
see Northern lights on page 28.
Exits per year by type, 2007—2012
www.capitalinsights.info | Issue 6 | Q2 2013 | 9
10. A
s the search for new streams of revenue
continues for corporates, be that by creating
new products or entering new markets, many
are finding that the best way to solve a problem
is, in fact, to share it.
This type of partnership is often considered by
companies looking to expand their geographical footprint.
For example, pharmaceutical giant AstraZeneca knew that
cracking the biologics market in the world’s most populous
country, China, was a critical component of its long-term
growth plan. The Chinese pharmaceutical market grew from
US$10b in 2004 to US$41b in 2010 and is projected to
grow to over US$100b by 2014, according to IMS Health.
After considering the options for market entry,
MedImmune, the global biologics arm of the pharmaceutical
giant, entered into a joint venture (JV) with China’s
WuXi AppTec, a research and development outsourcing
company. The goal of the partnership was to develop and
commercialize MEDI5117, a novel biologic for autoimmune
and inflammatory diseases.
What made this the best option? “A joint venture is easier
when both parties are bringing something relatively equal
to the table,” explains John Trainer, Vice President, Business
Development at MedImmune. “WuXi had local market know-
how and facilities on the ground. AstraZeneca-MedImmune
has products and global, as well as local, know-how. It was a
good balance, and the quality of investment from both sides
makes a difference for a successful long-term partnership.”
JVs can also help to provide a balanced approach to
growth by diversifying companies’ business strategies.
This is certainly the case with Paradigm Oil & Gas. The
DorlingKindersley
Key insights
For many sectors, joint ventures (JVs) are the only
practical way into new markets.
JVs can help corporates mitigate risk and are a good way
to optimize capital — particularly pertinent in the currently
unstable economic environment.
A successful JV will depend on a number of factors,
including transparent governance, choosing the right
partner, a shared purpose and adaptability to changing
market conditions.
For companies looking to enter a new industry
or geographic market, sharing knowledge and
risk via a joint venture can be the way forward
the
gap
Bridging
11. American company agreed a joint JV with its
counterpart Energy Revenue America (ERA)
in February. In the 50/50 deal, Paradigm
brought 5,000 acres of land to the table
available for rework, while in return, ERA will
introduce Paradigm to leases in Oklahoma,
as well as ERA’s expertise in natural gas. As
Paradigm president Vince Vellardita put it at
the time: “Having the opportunity in natural
gas through the new venture and Paradigm
Oil & Gas being in traditional oil production,
we are now set up for three revenue streams
for a win-win situation.”
Sticking together
JVs can also improve balance sheets. This
year, for instance, the International Air
Transport Association’s CEO Tony Tyler has
estimated industry profits will increase 40%
on 2012, citing “joint ventures on long-haul
routes” as one of the factors behind this.
Elsewhere, Irish agri-services group Origin’s
profits attributed to associates and JVs grew
by 53.8%, helping it to a 2.5% annualized
increase in group operating profit. JV deal
values are also rising — in the US, they
climbed from US$9.5b in 2008 to over
US$12b in 2012, according to Thomson
Reuters data.
For David Scourfield, M&A Partner at
Ernst & Young, risk mitigation is also a key
factor in the appeal of JVs: “On balance, JVs are a more
popular structure for market entry at the moment,” he says.
“A number of people have tried to go it alone and have been
burned, so there is increasing recognition that it is better to
be in a risk-sharing environment.
“In the pharmaceuticals sector, for example, people
were historically very protective of their intellectual
property. But now we are seeing that, where they are
producing drugs for a particular therapy area and there
is common ground in terms of research, there should
be a mechanism for
sharing that.”
Despite these, some
believe JVs’ appearance
as complex deals means
they aren’t getting the
press they deserve. “I am
bemused when I read about
JVs,” says Paul Beamish,
Professor of General
Management at the University of Western Ontario’s Richard
Ivey School of Business. “There is an implicit assumption
that somehow JVs are going to be more complicated or less
profitable than wholly owned greenfield subsidiaries.
“But when we analyzed the performance of more than
27,000 Japanese owned foreign JVs, we found that survival
rates are indistinguishable from wholly owned subsidiaries.
“One of the reasons JVs get bad press is that you have
an external partner to blame if there is a problem, whereas
with a wholly owned subsidiary, there is a tendency to
avoid criticizing oneself or one’s colleagues.”
Optimizing
Investing
People have tried to go it alone in the
past and have been burned. There is
increasing recognition that it is better
to be in a risk-sharing environment
11
12. 12bValue of JV deals in
the US in 2012
1
Merge to emerge
In many jurisdictions, particularly in emerging markets,
a JV is the only way a multinational can gain access to the
high-growth prospects on offer. Last year, for example,
Chinese authorities relaxed foreign ownership rules for JVs
involved in securities underwriting, but the foreign partner
is still only allowed to own 49% of the venture, compared
with just 33% previously.
“It is a prerequisite for certain markets because of
regulations, but going into an emerging market where you
have no knowledge without a local partner would be
a pretty foolish thing to do,” says Scourfield.
“In theory, you can go in on your own. And some
companies, particularly consumer products-type companies
where it is about sales and marketing rather than local
manufacturing, can get away with it. But as a strategy, that
is probably not advisable. People are more comfortable with
developing an organic or a bigger presence when they have
already been in a market for a while.”
It isn’t just China that is a target for corporate JVs.
“Investors are looking to Africa, Latin America and, to
a lesser extent, Russia for their growth opportunities,”
says Scourfield. “Asia has been a traditional destination,
but it looks fully valued at present and the required
investment in understanding the cultural richness of the
region has often been underestimated.”
Italian helicopter manufacturer AgustaWestland is
one of the companies following this trend. In February
this year, it agreed to establish a
JV with Brazilian aircraft maker
Embraer. AgustaWestland CEO
Bruno Spagnolini said after the
announcement that the move
would “help us to further grow
our business in one of the world’s
fastest-growing markets.”
Sharing the risk
As well as opening doors for opportunities, JVs can
also provide a form of protection from risk. This kind
of mitigation is particularly salient in today’s unstable
financing environment.
The recent JV between Canada’s Constantine Metals
and Japan’s Dowa Metals & Mining highlights this point.
Constantine required capital for a project in Alaska, and
for its vice-president of exploration, Darwin Green, the
Dowa deal made sense. “It’s a scenario that lets us avoid
the risk and vulnerability of trying to finance the hundreds
of millions required to develop a project alone — a situation
wherein many juniors with quality assets run into problems
even when they have positive feasibility
studies in hand,” he said in February.
Capital efficiency
Collaborating via a JV can also be a
good way to optimize capital. In this
vein, MedImmune is extremely proud
of its collaborative approach to drug
development. “If you rely on doing
everything yourself, then you are probably
not being as efficient with your capital and
people as you could be,” says Trainer.
This advice has been heeded by
Spanish broadcaster Telemundo and
Warner Music Latina, who agreed a JV in
February this year to sign, promote and
market Latin music artists. While Warner
will provide its knowledge of the music
industry and production, Telemundo will
offer promotional expertise through its
various broadcast platforms. Here, both
parties bring what they each do best to the
table, to deliver a common goal and shared
revenues. For more JV insights, see our
interview with Pfizer CFO Frank D’Amelio
on page 14.
Steps to success
JVs can be complex transactions. Getting it
right at the outset is the key to a successful
partnership. There are four keys to a happy
and productive relationship.
Get the governance right
You need to be clear about the composition
of the board and who is going to make
decisions on a day-to-day basis. No matter
how compelling the strategic logic, if the
detail about who has responsibility for what
is not clear, the venture is doomed from the
outset. Governance standards need to be
as robust as for any business venture.
JVs should be treated as any other
business line and having focused goals is
the key to success.
“If you anticipate that the relationship
with the external partner is going to be
very broad, very strategic and you will
have to co-ordinate it through a lot of joint
activities and have a lot of competitive
US$
Capital Insights from the Transaction Advisory Services practice at Ernst & Young
If you do everything yourself,
you are probably not being as
people as you should be
John Trainer, VP Business Development,
MedImmune
On the web
For information on how JVs can help overcome cultural differences
in M&A deals, visit www.capitalinsights.info/jointventures
13. 3
4
2
Professor Laurence Capron from
INSEAD talks about the benefits of
joint ventures
A
balanced approach to growth is vital for a long-term business
strategy. Yet just one-third of companies in the ICT sector use
a balance of alliances, acquisitions and internal development.
Companies using many modes to obtain new resources are 46% more
likely to be in business five years later than those who solely focus on
alliances; 26% more likely than those using M&A; and 12% more likely
than companies using only internal development.
For many, alliances and JVs are forgotten business development
modes. They focus on
organic development, and it
is only when they are lagging
behind their competitors or
in crisis mode that they jump
into an expansive acquisition
to catch up.
The main benefit of a JV
is that it gives you a more
flexible and less expensive
option when compared with an acquisition. If you are in a fast-moving
business environment with lots of emerging technology, but you don’t
know which one will win, a JV can be a good way to start and cover off all
potential developments.
JVs can offer a de-risked entry strategy when going into unfamiliar
jurisdictions or sectors. When French food giant Danone wanted to enter
the organic yoghurt segment in the US, it formed a strategic alliance with
Stonyfield that saw it take a 40% stake in the business. The JV performed
well, with annual revenue growth of 24.3%. Two years later, Danone
purchased the remaining non-employee-owned shares in the business,
taking its stake to 85%.
Viewpoint
Laurence Capron is the Paul Desmarais Chaired Professor of
Partnership & Active Ownership at INSEAD
A joint venture gives
overlap, then the JV is likely to fail,” says Laurence Capron,
the Paul Desmarais Chaired Professor of Partnership &
Active Ownership at French business school INSEAD.
“Companies need to identify the conditions under which a
JV is the right option. If the venture is strategic and core to
their business and they are certain of that strategic value,
then an acquisition might be a better option. But if it is
focused and the partners’ objectives are clearly aligned,
then a JV is the way forward.”
Find the right partner
This step is crucial. To do this, you need to engage in
thorough due diligence. It is not enough for the two
directors to meet and get on. You need independent
due diligence and would be well advised to use your own
employees who are working on the ground to provide
commentary on what they think of the JV partner.
“It is vitally important to get real agreement on how
you are going to measure success and what potential
contingencies you will take in response to changing market
conditions,” says Beamish. “You need to be upfront
about the relationship because no one can predict what
will happen over the next three to five years. With more
discussion at the start, you will have a better idea about
whether you have a partner that will be on the same page
as things evolve.”
Know what you want
Goal alignment is crucial, and comes down to knowledge
of what your partner wants from a relationship. Open
communication and trust are important, and goals need
to be kept under constant watch. If, over time, learning
opportunities become unbalanced and one side is getting
more out of the relationship than the other, the venture
can turn sour.
For instance, the long-standing JV between Indian
car manufacturer Hero and Japanese giant Honda — which
started in 1984 — began to break down after Hero felt
Honda was not sharing information. In 2004, following
a liberalization of Indian markets, Honda announced
plans to set up a manufacturing subsidiary in India that
would compete with Hero-Honda. Honda downgraded
the relationship from strategic to operational and the
two parties began to separate. Honda began to divest
its stake in 2011.
Plan for change
JVs can be an efficient structure in fast-changing
markets. “When you set up a JV, you have to be willing to
compromise and be flexible,” says Trainer. “You can set up
a great JV, but something can happen in two years’ time that you didn’t
anticipate. You have to have the mindset that allows you to work with
your partner and adapt to survive and prosper.” As well as being clear
on the life cycle of the venture, partners need to work out how they will
react to changing market conditions.
As in any walk of life, JVs and partnerships require commitment
from both sides and a clear vision of what is to be achieved. But putting
in the necessary work on such a project could help your business
expand into exciting new markets.
For further insight, please email editor@capitalinsights.info
www.capitalinsights.info | Issue 6 | Q2 2013 | 13
14. fit
Fighting
While the pharmaceutical sector faces tough
tests in 2013 and beyond, Capital Insights
and mastering his capital agenda
P
harmaceutical companies are currently suffering
hitting the industry all at once.
This problem is especially acute in austerity-hit countries
Closing the
gap?
most troubling of all, the ongoing pain of patent expirations
Up and about
Capital Insights
16. Working capital harder
On the day-to-day level of improving working
capital, D’Amelio has made this a high
priority and, for the CFO, it is very much a
team effort — fitting in well with the strategic
imperative of making Pfizer’s people a
crucial competitive advantage.
“We’ve set up several financial impact
teams (FITs) that deal with every major
aspect of working capital. For example,
we have a receivables team, an inventory
team and a payables team,” he says. “We
negotiate with each of them on how much
cash they will deliver and then it is their job
to deliver it.”
According to the CFO, it is not glamorous
work, but it is imperative for the smooth
running of the business. “Working capital management
is about blocking and tackling — for example, we look at
specific regions and ask questions such as ‘how long does
it take to pay bills?’ and ‘if we’re paying faster than we’re
collecting, why are we doing so?’.
“We also look carefully at inventory across the
company and at payables. We’ve been taking this
rigorous approach for five years and it’s working well.”
However, noting the importance of working capital
improvement within the business, D’Amelio is now looking
to take it to the next level. “After five years, we need to
re-energize our efforts and make sure that things don’t get
stale — in the future this will mean more aggressive targets
and more frequent performance meetings,” he says.
Perfecting the portfolio
Prudently deploying and managing capital is very much the
remit of the CFO and his team, so he is also very involved in
rationalizing Pfizer’s business portfolio.
With this in mind, Pfizer has recently executed two well-
publicized and highly successful major carve-outs. The first
saw the non-core infant nutrition business sold to Nestlé
for US$11.85b in December last year. And in January,
Pfizer offered a 19.8% ownership stake in its animal health
business, Zoetis, through the largest US IPO since Facebook,
raising US$2.6b from investors.
But what criteria did Pfizer apply when looking to spin-
off these businesses? “Our compass is always maximizing
total after-tax shareholder return,” he says. “Now the
animal health business is a great business, but it’s all about
unlocking trapped value. In the IPO deal, we got a multiple of
20 plus. Our current multiple is 12. The business is dwarfed
inside Pfizer. The same was true with the nutrition business.
It may seem counterintuitive — getting smaller to create
value — but it’s about unlocking trapped value.”
This approach fits in well with recent findings from
Ernst & Young’s Global corporate divestment survey, in
2000 20032002 2004
Pfizer invests US$5.1b in R&D. During the same year,
the company also becomes the first US pharmaceutical
company and first top 10 company on the New York
Stock Exchange to join the UN Global Compact
Pfizer acquires competitor Warner-Lambert
for US$90b in stock, creating a pharmaceutical
giant with over 85,000 employees
Pfizer merges with Pharmacia Corporation,
giving the combined entity an R&D budget of
US$7.1b. This makes Pfizer the world’s leading
research-based pharmaceutical company
Pfizer founds Pfizer Venture
Investments (PVI), the
company’s venture capital arm
The
CFO
Frank D’Amelio
Age: 55
Appointed CFO at Pfizer: 2007
Educated: St John’s University, New York and
St Peter’s College, New Jersey
Previous positions: Before joining Pfizer as
CFO, Frank was senior executive vice president
of Alcatel-Lucent, where he oversaw the merger
of Alcatel and Lucent Technologies. Prior to this,
he was COO and CFO of Lucent Technologies.
He began his working career with AT&T in 1979
at Bell Labs, holding numerous financial and
management positions.
Pfizer
Founded: 1849
Employees: 91,500
Countries: 150
Market capitalization: US$209.2b
(as of 5 April 2013)
17. which 59% of respondents stated that enhancing or diluting
earnings per share was the key factor in determining
whether a business should be in the company portfolio.
Creativity is the cure
While the company is carving out certain businesses, that
doesn’t mean Pfizer is steering clear of acquisitions. But,
according to the CFO, the focus is now on bolt-ons and
structured business development deals — with partnerships
and emerging markets playing a key role in growth plans.
“We never say never to any acquisition, but bolt-ons are
the main targets,” he says. “We’re looking at therapeutic
areas where we have the opportunity to achieve sufficient
returns on capital such as inflammation and immunology,
oncology and neuroscience.
“Another focus area is emerging markets. The business
last year grew 12%. In BRIC–MT (Brazil, Russia, India,
China — Mexico, Turkey) markets, we grew 16%. There are
opportunities here not just for acquisitions but for well-
structured collaborations.”
Two such deals are already well under way in rapid-
growth markets. At the end of 2010, Pfizer acquired a
US$250m, 40% stake in Brazilian drug company Teuto
to expand its portfolio of generic drugs. Meanwhile, in
September last year, the company launched a US$295m
JV with Chinese company Hisun.
D’Amelio explains that, while Pfizer may take 100%
ownership of Teuto in 2014, the deal had been carefully
and creatively structured to ensure that the Brazilian
company would only receive additional payments if certain
financial targets were met.
“We structured the deal so that Teuto would get more
money if they delivered,” he says. “For us, it was a win-win
situation. We’re happy to pay them more money, but only if
the business is performing.”
However, despite the continued growth, this increased
focus on emerging markets could potentially throw up a raft
17
2005 2006 2006 2007
Pfizer wins approval to allow drugs wholesaler
UniChem to become its exclusive distributor in the UK
Pfizer buys US-based Rinat
Neuroscience, a drugs company,
to move further into biotechnology
Pfizer acquires anti-infective drug developer Vicuron
Pharmaceuticals for US$1.9b. In the same year,
it also acquires Idun Pharmaceuticals for an undisclosed
amount, and bio-pharma firm AngioSyn for US$527m
Pfizer sells its consumer products
division to Johnson & Johnson
for US$16.6b
Lessons learned
1
2
3
4
5
6
7
8
9
Capital Insights
his tenets for professional and personal success
in business
There is no decision you should make based on just one
metric. You should evaluate all aspects of the business with
multiple metrics.
When it comes to external communications, we under-commit and
over-deliver. If you take a hit by under-committing, that’s fine. Take
your hits once and be determined to over-deliver.
A rule of thumb on business development deals, such as JVs and
partnerships, is that one plus one has to equal more than two. When
someone proposes an acquisition or partnership that doesn’t include
substantial synergies, ask why we are doing the deal.
I like structured business deals. I don’t like paying today for growth
that may be delivered tomorrow. Pay for growth when your partner
delivers it.
Operational cause equals financial effect. If we execute with
excellence, the financials — and stock price — will take care of
themselves over time.
One of the things I like about the consumer business is that assets
can have long lives. If you manage the brands and invest in them
correctly, they can live forever. So it’s easier to get a return on capital.
When I first came to Pfizer, I made sure I listened to everyone and
learned what they did before giving my opinion on what I thought
needed to be done. You have to go slow to go fast.
Don’t be embarrassed to ask questions. Every industry has its
own language — don’t be embarrassed to ask about acronyms,
for example. Be humble and learn from people.
Work with the team and build relationships throughout the
organization. The higher up you go, the more you become
dependent on others.
18. of risks that are not present
in more developed economies.
D’Amelio is quick to rebuff
the argument.
“We are not just entering
these markets. We’ve been in
them for decades. We have
significant infrastructure and distribution capabilities.
We are viewed as a local company,” he says. “In terms
of mitigating risk, it’s the same approach we take
everywhere. We have a rigorous control environment.
The operational people are there every day and they are
a major part of the solution.”
In addition, D’Amelio believes that one of the keys
to competing in these markets is building alliances with
strong local companies — as has been the case with
Hisun and Teuto.
“Teuto, for example, is a company that has a good
local reach into segments of the market that our field
force doesn’t reach. Together, we are doing things that
we each couldn’t do on our own.”
Power partnerships
Pfizer is also applying these principles to partnerships
with other big pharma players. One innovative deal was
a JV with GlaxoSmithKline
(GSK) in 2009. This saw the
creation of ViiV Healthcare,
a company specializing in
therapies for HIV. D’Amelio
believes that the deal
benefited both companies.
“GSK had a robust
commercial portfolio
and Pfizer had a robust
pipeline. By combining
each company’s assets and capabilities, we were so
much stronger together than either company could
have been on its own. In terms of our ownership
percentage, this can swing depending on pipeline
results. If our pipeline plays out well, we will have
greater ownership.”
Another demonstration of the power of Pfizer’s
collaborative abilities came in August last year, when
the company signed a US$250m deal with UK company
AstraZeneca for the global over-the-counter (OTC) rights to
Nexium, a drug used to treat the symptoms of acid reflux.
For D’Amelio, the deal made complete sense. Once again, it
played to the strengths of both companies.
“We believe there was significant upside for this deal
because it leverages AstraZeneca’s leadership in the
gastrointestinal therapeutic area and Pfizer Consumer
Healthcare’s expertise in the sales and marketing of
consumer health products.”
In the same month, Pfizer also announced a collaboration
with US generic drug company Mylan to deliver some of
its products in Japan. Again, this was a case of combining
forces to produce better results.
“Mylan has a strong generic product portfolio in Japan
and we have really good channel capability there. The
country represents 11% of our sales,” he says. “The two of
us will come off better together than apart.”
2009 2010 20122011
Pfizer, along with four other pharmaceutical
giants, provides venture funding to Ablexis
for its antibody drug discovery technology
Pfizer sells its Capsugel pill
manufacturing unit to private equity
firm KKR for US$2.4b
Pfizer acquires rival firm Wyeth for US$68b — the
largest merger in the pharmaceutical industry since
Pfizer’s own tie-up with Warner-Lambert
Pfizer sells its infant food unit to
Swiss firm Nestlé for US$11.85b
Corbis/FarrellGrehan
l & t Getty Images/Bloomberg
20. Capital Insights explores how airlines are consolidating
via joint ventures, equity investments and cross-border
takeovers to win the battle for capital in the skies
R
ising fuel costs, the Eurozone
crisis and threats of tougher
regulation have given airlines
a rough ride of late.
However, despite this three-pronged
bout of turbulence, the sector held up well
in 2012. The International Air Transport
Association (IATA) upgraded the industry’s
profit estimates to US$6.7b over the course
of the year — well above its previous 2012
projection of US$4.1b.
However, the underlying numbers are less
encouraging. Globally, profit margins came in
at around 1% but there was a huge amount
of regional variation in performance. In North
America, airlines are expected to post a
combined profit of US$2.4b. However, IATA
projected a loss of US$1.2b in Europe. IATA’s
projections were underlined by evidence
from individual operators. In July 2012,
the UK airport operator Heathrow Airport
Holdings noted a year-on-year downturn in
flights between Heathrow and recession-hit
European countries such as Greece (-11.3%),
Italy (-9.0%) and Portugal (-11.4%).
“One of the key threats facing aviation
in Europe is that the sources of growth are
shifting from the West to the emerging
markets,” says Toby Stokes, EMEIA Leader
for Aviation at Ernst & Young. “China, India
and Brazil together contributed over 50% of
global GDP growth from 2008 to 2011 while
the Eurozone contributed just 4%.”
This directly links to the airline sector,
Stokes adds. “Domestic Chinese traffic will
surpass domestic US traffic and Asia Pacific
will lead in world traffic by 2031, with 32%
share of the global aviation market. Growth
in the aviation business is linked directly to
GDP growth and global economic output.
The shift of economic growth toward the
East has started to affect the global aviation
Flight
plan
Key insights
Emerging markets are offering strong
investment opportunities but airlines
from developed markets are increasingly
in competition with their rivals in rapid-
growth economies.
Joint ventures (JVs) are a valuable
method, not only to address cost issues,
but also to enter key new markets.
A key to a successful JV is both parties
fitting well together on a cultural level.
In some cases, mergers may present a
better option than JVs because they can
offer far greater synergies.
In terms of mergers, one method of
overcoming regulatory issues is to
seek deals within your own jurisdiction.
GettyImages/Flickr/ChristianBeirleGonzález
Capital Insights from the Transaction Advisory Services practice at Ernst & Young
21. market significantly, including increasing the challenges for
airlines operating in Europe.”
This shift in growth eastwards is seen with the investment
by Middle Eastern carriers where, in late 2011, Abu Dhabi’s
Etihad Airways bought 12 Boeing jets for US$2.8b (on top of
the 150 jets they ordered at the Farnborough International
Airshow in 2008) and Emirates ordered 50 Boeing 777
jetliners, costing US$18b, as well as 60 A380s and 50 A350s.
Airlines worldwide have also been hit by rising fuel costs.
In its 2013 outlook, IATA predicted that jet fuel is expected
to average US$130 a barrel for the year (up from US$124 a
barrel projected in December). Fuel now amounts to around
a third of airline costs compared with 13% a decade earlier.
Flight patterns
Against this background, consolidation in the airline industry
is increasing through M&A activity. Indeed, deal values in
the first quarter of 2013 totaled US$5.6b, more than the
combined value of deals in all of 2012. Airlines are also
using alliances and JVs either to reduce their own costs
or to realign them to a world where economic power
is shifting.
“Airlines are increasingly looking at partnerships through
different mechanisms like code shares, JVs, global alliance
alignments, as well as equity investments where regulation
permits,” says Stokes. “This is to ensure they capitalize on
feeder markets and optimize their combined networks to
create mutual benefits.”
IATA’s Chief Economist Brian Pearce points out that
cross-border mergers outside Open Aviation Areas, such
as Europe, are barred by foreign ownership rules. “What
we’ve seen instead of cross-border mergers is a range of
alternative measures such as alliances,” says Pearce.
Allied forces
Star Alliance, SkyTeam and Oneworld are the three
dominant alliances in the airline industry today. Between
them, they provide around 80% of capacity across the
Atlantic and Pacific, and between Europe and Asia.
Alliances allow airlines to increase the number of global
destinations they can offer to passengers by working with
partners to provide seamless connections. The key to this is
Investing
Raising
Top three announced aviation deals since April 2012
Announced Target Buyer Deal value
FEB
2013
US Airways
Group (US)
AMR (US) US$4.9b
SEPT
2012
Landmark
Aviation (US)
Carlyle Partners
(US)
US$625m
SEPT
2012
Virgin Atlantic
Airways (UK)*
Delta Air Lines
(US)
US$360m
Source: Mergermarket *49% stake
code sharing, under which ticketing codes are pooled
to allow passengers to book connecting flights through
an integrated system.
According to Anna Faelten of Cass Business School’s
M&A Research Centre, the alliance model has parallels in
other industries — such as telecoms or transport — where
the business model is based around networks. It can
provide a means to cut costs and expand reach while
offering seamless service. “Airlines move people around,
but you can apply the same principles to data or transported
goods,” she says.
Combination locks
JVs create an even closer relationship between partners.
“This is a relatively recent development,” says Pearce.
“Under a JV agreement, networks and schedules are
co-ordinated on selected routes, providing passengers with
a much better service but also generating economies of
scale for the airline partners.”
A JV or strategic alliance may also involve building
equity stake investments. For instance, Virgin Atlantic
and Delta have entered into an alliance that will see the
two partners share routes across the Atlantic. Announced
in December 2012, the arrangement was prefaced by a
US$360m deal in which Delta bought a 49% stake in Virgin.
This illustrates a key benefit of a JV in this industry:
partners can take advantage of each other’s landing slots,
which are normally hugely expensive to buy at major
airports. Virgin’s slots at Heathrow will enable the airlines to
fly 304 flights per week in and out of London’s major airport.
JVs of this type can go a long way to addressing
regulatory restrictions and cost and profitability issues.
A partnership on a specific route can help to solve the
problem of two carriers that are competing directly, but
flying half-empty planes. However, they are typically not JVs
in the traditional sense of having their own separate
management structure.
Alliances allow airlines to increase
the number of global destinations
they can offer passengers
Preserving
www.capitalinsights.info | Issue 6 | Q2 2013 | 21
22. Shifting gears
Joint ventures and alliances
are also allowing airlines to
make inroads into emerging
markets. According to Ernst & Young’s recent Growing
Beyond report, the number of people in the global middle
class will increase from 1.8b to 4.9b by 2030 — with the
majority of those in Asia and other high-growth markets.
Scott McCubbin, Ernst & Young UK and Ireland Aviation
Transaction Support Partner, believes that airlines are
responding to this global shift in economic power. “GDP
growth is now in emerging markets rather than Europe
or North America, and that is driving deal activity in the
airline sector,” he says.
Australian carrier Qantas announced in January
this year that it would form a partnership with Emirates,
which would see the carriers fly to Dubai from Australia
14 times a day.
Overseas trips
However, JVs and alliances are not without their own
obstacles. They are by no means regulation-free and any
deal requires governments to grant anti-trust immunity
(ATI). Airlines can enter into alliances without ATI but,
typically, they will be prevented from discussing issues
such as pricing with their partners.
And immunity can be hard to obtain. For instance, US
regulators will not grant ATI to an overseas airline unless
an “open skies” agreement is in place between Washington
and the relevant government.
Risks are also attached to alliances. “You have to find
a partner that has the same strategic approach,” says
Faelten. “And after that, you have to be aware that the
partner will be delivering services on your behalf.” In other
words, mistakes made by one party will reflect on the brand
of the other.
For these reasons, a merger or a takeover may
present a better long-term solution. And according to
Jens Rothert-Schnell, Ernst & Young Germany Aviation
Transaction Support Partner and GSA (Germany,
Switzerland and Austria) Transportation and Logistics
Sector Leader, it’s also a question of creating a single
decision-making structure.
“You don’t really get all the synergies unless you have
a full merger,” he says. “In a JV or alliance structure,
you will have at least two sets of top management and
stakeholders, different cultures and environments which
make change management much more difficult.”
Across Europe, numerous airlines have been active in
cross-border mergers in the past few years. One of
the largest of these came in 2010 when British Airways
(BA) and Spain’s Iberia merged under the umbrella of
the International Airlines Group (IAG) creating a company
with £6.1b (US$8.5b) of value on its stock market debut
in January 2011.
IAG CEO Willie Walsh and chairman Antonio Vázquez
said that the rationale behind the deal was to create an
airline with a much bigger combined network than the
two parts. “BA and Iberia will retain their strong brands
and have complementary networks that operate from
two of the biggest hubs in Europe,” Walsh said at the
time of the deal.
In the US, consolidation has been widespread, with
tie-ups between airlines such as United Airlines and
Continental Airlines (2010), Delta and NorthWest (2010),
and SouthWest and AirTran (2011). Meanwhile, in February
this year, American Airlines and US Airways entered into a
merger agreement.
These tie-ups brought benefits for the airlines —
though each deal has its own nuances, says Stokes.
“Domestic mergers such as United and Continental
and the recently announced US$11b tie-up between
American Airlines and US Airways have produced
significant cost synergies, and efficiencies, through
a single resultant brand,” says Stokes. “Cross-border
European mergers tend to keep the individual identity
of both carriers (for example, Air France and KLM)
while searching for both commercial and operational
efficiencies and savings.”
Staking your claim
Ownership rules remain an obstacle for several airlines.
The 2007 Open Skies agreement between the US and
2 0 0 7 U S $ 8 . 6 b 4 3
Y e a r V a l u e V o l
2 0 0 8 U S $ 1
0
0
0
5 . 8 b 4 6
2 0 0 9 U S $ 5 . 2 b 3 5
2 0 1 0 U S $ 2 1 . 0 b 3 4
2 0 1 1 U S $ 1 0 . 0 b 3 2
2 0 1 2 U S $ 1 . 5 b 3 4
Aviation M&A deals (volume and value) 2007—2012
US$5.6b
Deal value in the airlines sector
in the first three months of 2013
Source:Mergermarket
Capital Insights from the Transaction Advisory Services practice at Ernst & Young
23. 2
1
Abdulgader Bajubair of Saudi Airlines
on breaking into the European market
and partnering to achieve growth
E
urope is an extremely attractive destination for Saudi Airlines
(SV) as it is a high-yield market. We will get more returns from
there, due to the rise in demand. It is extremely popular among
travelers and the increasing movement of air transport through the
seasons and throughout the year is aiding this. For Saudis, it’s a focal
spot for tourism. IATA data shows that revenue passenger kilometers
(RPK), a measure of the volume of passengers carried by an airline,
increased by 5.3% in Europe from 2011 to 2012. And although this is
a smaller rate of growth than in other areas, Europe still generates over
a third of the global RPKs, making it the biggest market. For us, this
makes it relatively risk-free.
Although risk might
not be high, there are some
obstacles to overcome.
Since the inclusion of
international aviation in
the EU Emissions Trading
System (ETS), regulation is a
critical issue. The ETS caps
the level of CO2
emissions
from flights each year. This
is restricting SV’s expansion.
From our side, CO2
emissions have to be predicted in order to know the
number of certificates needed to combat such instances. To do this,
we must have upfront planning, addressing the specific requirements
regarding the methods of dealing with such regulatory issues.
The Sky Team Alliance, which we joined in May 2012, complements
SV’s network and will assist in the dawn of a new era in our expansion
plan. We gain key advantages from this partnership, namely improved
service, lower fares and a wider range of schedules.
Viewpoint
Abdulgader Bajubair is the General Manager for Treasury at
Saudi Airlines
The allianceThe a
complements ourcompl
network and will
assist a new era inin
our expansion planlan
Europe was intended to liberalize the air travel market, yet
there is still a 49% foreign ownership cap in Europe and a
25% ceiling in the US.
“Airlines are faced with less regulatory issues in
the case of mergers and acquisitions within their own
jurisdiction,” says Rothert-Schnell. “In such cases,
regulatory issues are mostly limited to approvals needed
from the competition authorities.”
One example of a company using this kind of model
is India’s Jet. It has expanded by taking on board local
partners including Air Sahara, which it bought in 2007
for US$340m and renamed JetLite.
Business class
Each deal will have its own strategic goals. For example,
the Middle East’s fast-growing and highly competitive
airline players are pursuing a strategy that sees their
countries becoming hubs for passenger and cargo travel
between Europe and Asia, according to Rothert-Schnell.
“They don’t necessarily need to take majority stakes,
but they do want to ensure that the airlines they invest
in will fly into their hubs and combine their flight
networks,” he says. For more on Middle East airlines
targeting Europe, see Viewpoint, right.
In addition, mergers can help airlines that are
looking to preserve capital in the long term in the
two following ways:
Savings behind the scenes
While a merger may not mean that two airlines will unite
under one brand, there are real opportunities to pool
resources. For instance, airlines can leave the customer-
facing operations branded in the old colors while merging
processes such as baggage handling, booking, scheduling
and customer service. In the case of IAG, a rationalization
of sales and management teams, plus the integration of
engineering and property services, contributed to savings
of £112m (US$168m) up to 2012.
Subsidiary savings
There can be further savings by using a subsidiary
to alter the cost structures of part of the business.
Rothert-Schnell cites the example of Lufthansa’s
low-cost carrier Germanwings.
“Flag carriers tend to have very high staffing costs
because of their history,” he says. “Lufthansa has been
moving some of its routes to Germanwings, which
has a much lower cost base.” In addition, Rothert-
Schnell explains that this move comes as a reaction
to price pressure and aggressive competition from
low-cost carriers. Lufthansa will transfer its short-haul business to
Germanwings, adjust its product and service level to the offerings of
their competitors and fly under that name, and thus protect its own
Lufthansa brand.
It is a tough time for airlines. But the industry has responded to
tighter regulation, high fuel costs and the ongoing financial crisis by
developing an innovative range of ownership strategies. Other sectors
would do well to look to the skies for inspiration.
For further insight, please email editor@capitalinsights.info
www.capitalinsights.info | Issue 6 | Q2 2013 | 23
24. The Capital Insights debate:
Distressed
investing
are drying up and corporates are
turning to a new breed of alternative
funds for support. Ernst & Young’s
Keith McGregor discusses this
change of direction with some of
A
t the turn of the millennium, distressed debt
investors were already established players in
the US. However, more recently, Europe has
become a target market.
Banks have had to constrain lending. As a result,
businesses already facing falling profits in weak Eurozone
economies may also be looking into a funding hole. Growing
numbers of alternative investment and distressed debt funds
are moving in fast to fill that gap. Ten years ago, few funds
chased European distressed debt — yet now, Bloomberg
estimates that as much as US$74b is available for this
market. The once unconventional band of distressed debt
investors are stepping firmly into the mainstream.
KM: Today’s distressed debt funds feel very different to
those operating during the last downturn in the early 2000s.
What has changed?
JD: Last time around, hedge funds and distressed debt funds
made very good returns from effectively trading in and out
of debt. They traded in below par, the environment improved,
the debt returned to par and they made their money.
If you look at the wider economic picture now, we will
have very sluggish economic conditions for a number of
years, whereas last time we were in and out of recession
relatively quickly. The challenges are very different.
What that means for the debt fund community is that
its business model has to be different from the one that it
used last time. Now they have to find ways to restructure
and turn around the businesses in which they take debt
positions. That is a different mindset.
JC: I agree. Last time, there was a lot of opportunity to
buy in cheap and make a return a few months later with
little true value creation. Now, there is a need to add value.
This means that not only is the skill set different, but a
much broader array of skills is required — sourcing and
origination, structuring (and restructuring) and, perhaps
most importantly, operational restructuring skills. It’s no
Key insights
Debt funds have emerged in Europe over the last decade
to fill a void left by more traditional providers.
These funds have changed the way they work and are now
looking at restructuring and turning round the business in
which they take debt positions.
Corporates looking to divest, especially those that are
underperforming, could look to these debt funds.
25. Raising
GettyImages/CompassionateEyeFoundation/RobDaly/OJOImagesLtd
longer the case that a smart guy with a
mobile phone and a checkbook can execute
this from a small office in central London.
Success now requires a broadly based team
with extensive experience.
MW: Yes, investing in debt is by no means
straightforward. For all the reasons outlined
by John, you can’t just buy cheap and sell
a little later for a profit. As you think about
the loan-to-own opportunity set (situations
where investors seek to take ownership of
struggling businesses by buying into their
debt), it starts to look very different.
If you want to become involved in a
debt-for-equity swap, for example, you know
that it is going to involve disenfranchising
multiple stakeholders. That is something we
at GSO prefer to avoid, if possible. So one
approach is to look at what we can do with
the resources we have. We have scale and we
have drawdown capital so we can provide a
longer-term capital structure. That allows us
to provide a credit-led solution to companies
with a stressed balance sheet — a solution
that does not disenfranchise stakeholders.
KM: I feel that funds really relish working
alongside management and other advisors
with a common purpose. A whole range
of skills can be introduced from across
a wide range of resources. In particular,
a focus on the operational restructuring
of the business, with the involvement of
a chief restructuring officer, can really
support management and be instrumental
in change. We have found that an initial
focus on getting short-term cash sorted
and establishing stability can expand into a
longer-term, more strategic role over the
period of restructuring, looking at structural
issues, supply chain and more.
JC: It is fair to say that the market is much
more mature today. Distressed investors
often all get seen as the same — but there
are different types of investors within the
community. Some will provide new capital
into the right capital structure. Others are
interested in buying non-core assets, often
severely underperforming ones, because
they are interested in the scope for turning
these around. There are pools of capital
available for all kinds of situations. A
broader array of skill sets and objectives
are being brought to bear on the more
mature opportunity set presented by
today’s market and that can only be a
good thing.
Our investment in Klöckner Pentaplast,
a resins and packaging business with
revenues above €1b (US$1.3b), is a good
example. This was a high-quality business
that was heavily constrained by its legacy
capital structure. We were able to work
with the business to restructure the
balance sheet and address some
operational deficiencies head-on, in a
way that has enabled it to react well to
current market developments. As a result,
earnings have grown dramatically since
the restructuring closed.
JD: For sure, the more diverse experience
you have around a company, the better
your chances of finding a solution.
Management should not take it all on
their own shoulders.
KM: So what do you think has made
Europe so attractive to the funds?
JC: Traditional providers are more
reluctant to service some parts of the
corporate economy. Small and mid-sized
businesses are clearly struggling to access
lending in a way that they used to. The
debt funds have emerged to fill the void.
From our perspective, there seems to
be a new fund marketing its new direct
lending capability almost every month or
two in Europe right now. A lot of these
guys have suddenly arrived looking to
build a book of business over the course of
the next 18 to 24 months.
I think we will see more and more
capital provided by alternative lenders.
What is going to be interesting is the
cost of that capital — I think it is already
becoming very competitive.
MW: Historically, commercial banks
have been the primary provider of debt
capital in Europe. The collateralized loan
obligation (CLO) community, which invests
in syndicated loans from larger corporate
and leveraged buyout borrowers, also have
grown to be a meaningful provider. Between
them, those two have historically provided
75% to 80% of the senior debt to companies.
But going forward, if you think about the
funding pressures that European banks are
under, the banking system is going to provide
less capital to corporates. These banks are
faced with, among other issues, capital
pressures from Basel III and a reduction in
wholesale funding.
CEOs, CFOs and boards of directors have
to look at ways to diversify their sources of
funding — debt funds offer that.
KM: Alongside the changing approach of the
funds, it’s pretty clear that the traditional
strategy of banks toward restructuring has
also evolved. The stakeholder spectrum is
so much broader and more complex and
it’s no longer possible for banks to control
direction in the way they perhaps once did.
Nor, with economic pressure and varying
provisioning policies around Europe, is it as
easy for banks to agree courses of action
among themselves.
On the web
For more information about debt and corporate
divestment, read Ernst & Young’s Global corporate
divestment study at www.capitalinsights.info/divest
At the table
Keith McGregor (KM)
Head, EMEIA Capital
Transformation and
Restructuring practice
at Ernst & Young
Jason Clarke (JC)
Managing Director,
Strategic Value Partners
John Davison (JD)
Head of the Strategic
Investment Group,
RBS
Michael Whitman (MW)
Senior Managing
Director, GSO Capital
Partners
www.capitalinsights.info | Issue 6 | Q2 2013 | 25
26. JD: Banks as a group have a very wide range of approaches
to restructuring, and there are often some very different
objectives and priorities. Some banks want to exit and move
on, while some are prepared to be patient and want to try to
work through the business’s problems to return it to strength
and, as a result, deliver a longer-term financial return.
We also have to understand that it has taken time for
banks to work through what has been a very large leverage
loan portfolio. The market only had a limited amount of
capacity to deal with all these restructurings and, to a
certain extent, it should not be surprising that some things
took two or three rounds of restructuring to sort out.
We have seen businesses with top lines that are dropping
dramatically even within a year. That is a shock to the
system for any management team, and it is not something
many have contemplated with any degree of rigor. So it
is reasonable to give them time to think how to react to a
situation and then come back and have a sensible discussion.
It is also worth remembering that we have situations
where there are a large number of stakeholders. We have
banks holding debt at par, debt funds that have bought in
below par and there are international banks with differing
policies on restructuring.
As a result, it takes time to reach a solution that
enough of the stakeholders are willing to support. There
are situations where you would hope to come to a quicker
solution, but the practicalities of the stakeholder group
mean that that is often quite difficult.
MW: The banks have taken their time for sure. There was
an expectation that the banks would be aggressive sellers
US$74bThe amount funds have available to
invest in distressed debt
The shape of things to come
A 2012 survey of 100 European hedge fund managers, long-term
investors and proprietary desk traders by research firm Debtwire
suggests an optimistic outlook for the industry
early on, but that has generally not materialized. Banks are
reluctant to take the capital hit and just sell.
KM: So what does having so many stakeholders mean
for corporates? How should they approach banks and
funds, and best influence stakeholders, to work together to
preserve value?
JD: Talk to stakeholders and talk to them early; give them
accurate information; don’t give them false hope. Try to
be realistic, because trust is important in these situations.
Try to understand the process a stakeholder needs to go
through, whether it is a bank or distressed debt fund, so
nothing comes as a surprise.
The other thing I would say is that corporates should
think about cash. Most of the businesses we deal with
have a cash issue not an “earnings” or EBITDA issue.
Management should share the problem, and
getting good support can only help — the restructuring
of a business can be a horribly lonely place to be
as a CEO.
MW: I would say, come in and start a conversation. Headline
leverage in these situations is higher than anyone would
like and that can lead to a lack of comfort around the credit
story. A sector can be out of favor, or existing lenders may
assign negligible value to a large base of installed assets that
have a lot of intrinsic value.
A credit committee inside a financial institution typically
adheres to very traditional credit metrics; a debt fund can
deviate from that, given the nature of its capital, and we can
devise something more bespoke.
The capital structure need not suffocate a business. Too
often, we find management teams spending too much time
managing their lenders and not enough time managing their
business. The end objective for us is to allow CEOs to go
back to managing their businesses.
KM: And that objective is particularly relevant given that
the market is more complex than I’ve ever seen it. Longer
term, a permanent reclassification of the debt capital
markets is taking shape, which will have a profound impact
on the restructuring landscape. It’s clear that these funds
have established their space across Europe and they
can certainly be a force for good in the world of
corporate turnaround.
For further insight, please email keith@capitalinsights.info
66%
services sector would have
investors — the highest-ranked
sector in the survey
58%feel most restructuring
will take place in
Southern Europe
57%believe raising money
will be easier in 2013
45%are actively raising
funds for distressed
debt, up from 20%
in 2011
43%will increase
distressed
allocation in 2013
Capital Insights from the Transaction Advisory Services practice at Ernst & Young
27. The PE perspective
Sachin Date
Learning
curve
Icrisis, many commentators predicted
the myth that PE-backed companies do not
Sachin Date
sachin@capitalinsights.info
27
29. over US$18.5b. This is continuing into 2013,
with Q1 seeing Sweden home to 40 deals
worth a total of US$6.3b — the joint most
deals by number (with Denmark) and by far
the highest in terms of value.
Start-ups and services
As well as being the home to major
multinationals such as H&M and Ericsson,
Sweden is also a hub for some of the world’s
fastest-growing digital businesses, including
Skype, which was bought by Microsoft in
2011 for US$8.5b.
Swedish start-ups are some of the
most successful in Europe at attracting
investment. According to the European
Private Equity and Venture Capital
Association, in the first three quarters of
2012, the country took nearly a fifth of all
venture capital invested in the EU.
In addition to start-ups, Swedish
industrial services companies have attracted
interest from PE investors. These firms have
accounted for over 25% of all PE deals in
Sweden since the beginning of 2012. One
of the largest deals came in April last year
when Swedish investment company EQT VI
acquired Anticimex, a pest control and food
safety company, for SK2.7b (US$421m).
However, according to the World Bank’s
Doing Business 2013 index, Sweden is the
least easy country in the Nordics in which to
do business. Factors holding back its ranking
were the comparative difficulties in starting
a business and tax system complexities — though it is still
above the global average. There is also uncertainty about the
future of taxation of PE-carried interest, and the tax authority
is investigating whether PE investors are properly reporting
their tax liabilities. While this has caused some anxiety, it is
having little practical impact on activity, reports Almström.
“At the end of the day, no investment is made based on the
tax position,” he says.
Indeed, many see recent tax changes as good news
for businesses. “The corporation tax rate has come down
to 22% for this year. Sweden is becoming a sort of tax
haven,” says Almström. This is the lowest corporation tax
rate of the four countries, and is lower than the global
average of 24%.
Norway: power and privatization
Norway’s economy has fared well compared with its other
European counterparts and has experienced a significant
recent lift in M&A activity. Ernst & Young’s Transaction
Trends: Norwegian transaction market update 2013 reports
that, in Q4 2012, the 500 largest Norwegian companies
announced 32 deals, up from 22 in the previous quarter.
This is the highest level of activity since the third quarter of
2011. Additionally, cross-border deals constituted 56% of
transactions in Q4, up from 36% in Q3.
“Norway has a strong economy and a stable political
environment,” says Nils Kristian Bø, Transaction Advisory
Services Partner at Ernst & Young in Oslo. “We have elections
coming up, where we could see a change to a conservative
government. This may open up opportunities with publicly
owned assets and public private collaborations may rise.”
Should a new government wish to, it would have a long list
of attractive publicly owned assets to sell — the public sector
accounts for 52% of Norway’s GDP.
www.capitalinsights.info | Issue 6 | Q2 2013 | 29
Finland
Population 5.3m (2013)*
FDI US$84.3b
(2012)
GDP US$247.2b
(2012)
Source: CIA World Factbook; World Bank
*Estimates forJuly 2013
Norway
Population 4.7m (2013)*
FDI US$192.5b
(2012)
GDP US$500b
(2012)
Source: CIA World Factbook; World Bank
Denmark
Population 5.6m (2013)*
FDI US$120.7b
(2012)
GDP US$309.2b
(2012)
Source: CIA World Factbook; World Bank
Sweden
Population 9.1m (2013)*
FDI US$356.5b
(2012)
GDP US$520.3b
(2012)
Source: CIA World Factbook; World Bank
30. Powering up
Energy is Norway’s key strength, with the sector’s output
constituting 23% of GDP in 2011. And Norwegian energy
companies are diversifying internationally and into non-
traditional assets. Oil and gas company Statoil has major shale
gas assets in the US and Australia, and is engaged in joint
venture oil extraction projects in Brazil and Africa. It is also
investing in renewables.
In October 2012, Statoil teamed up with state-owned
energy company, Statkraft, to buy the Dudgeon Offshore
Wind Farm project in the UK. Statoil’s Senior Vice President of
Renewable Energy Siri E. Kindem said: “The acquisition is in
line with Statoil's strategy to seek new business opportunities
in offshore wind as part of the development of our renewable
energy portfolio.”
Bø expects the recent high level of deal activity to be
maintained, with both inbound and outbound deals.
“Many Nordic companies have a growth agenda, and
to achieve and to expand that they have to go abroad
because the domestic markets are small,” he explains.
“In addition, their balance sheets are fairly strong, so they
can concentrate on their growth strategies.”
One example of this is Norwegian chemical company
Yara’s US$750m acquisition of US agribusiness Bunge’s
Brazil-based fertilizer arm in December
2012. Those corporates in growth industries
that are looking to divest would do well to
keep an eye on Norwegian investors.
Finland: picking up the pace
Finnish M&A is small, but exciting
developments are taking place. Deals for
Finnish companies were up 24% in Q1 2013
compared with Q1 2012, according to
Mergermarket data.
However, according to Petri Parvinen,
Professor of Sales Management at the Aalto
University School of Economics, there is
currently a lot of medium-sized M&A taking
place domestically. Indeed, Mergermarket
data reveals that over 58% of all Finnish M&A
deals in 2012 were domestic ones.
Tech watch
Technology is key to Finnish development.
Notable technology deals in 2012 include
Digita, a digital provider, which was bought
by asset management company Colonial
On the web
For more information about Norwegian M&A, read Ernst & Young’s
Transactions Trends at www.capitalinsights.info/norway
What’s in the stars for PE?
2
3
1
We examine the state of the
Nordics’ PE market
PE-historic. Kristoffer Melinder, managing
partner of Nordic Capital, says that PE
activity is strong. Indeed, Mergermarket
data shows that 16% of all deals in these
four countries since 2012 have featured
a PE bidder. “The Nordic region has one
of the oldest and most active PE markets
in the world,” he says. Despite some more
challenging times in the exit market, Nordic
Capital has been able to attract strategic
and other premium buyers for recent
highly successful exits, such as Nycomed,
Point and Falck. “There are many fairly
large PE funds in Sweden,” Ernst & Young’s
Almström says. “Four or five multi-billion
euro funds have headquarters here, which
is unusual for such a small country.” One
is Ratos, which recently acquired energy
services firm Aibel for €1.2b (US$1.6b)
along with other investors.
Looking for exits. Almström believes that
many PE holdings have reached maturity
and there will now be some “significant PE
exits, which will create deal opportunities.”
This process has already started, with
London-based Smedvig Capital selling self-
storage company Selstor to Pelican Self
Storage. “I think 2013 will be an active
year,” adds Melinder. “The global economic
unrest has led to a situation where
some owners of attractive businesses,
particularly those off the radar of larger
buyers, are now willing to sell at low entry
multiples. In addition, the exit pipeline
is strong, a number of exits are likely.”
According to Ernst & Young’s Bø:
“Many PE firms have mature portfolios,
so the sell-side activity is expected to be
high. There has also been a significant
amount of fund-raising in the last year
and Norwegian PE firms have a lot of
dry powder.”
Domestic focus. Lots of PE activity at a
smaller level is inward-looking. “There will
be a lot of these activities this year,” says
Bø. “Among these larger deals, you will
see pan-European PE companies coming
in. With the smaller deals, it is other
Nordic PE firms that are buying.”
8.4bTotal M&A deal value in
the Nordic countries in
Q1 2013
US$
crGettyImages/GregDale
Capital Insights from the Transaction Advisory Services practice at Ernst & Young
31. First State Australia from French broadcasting company TDF.
The deal was reportedly worth €400m (US$536m). Finland
is established as a pioneer in digital technologies, making
its emerging companies worth monitoring. Parvinen sees
opportunities for global deals that bring strengths to rectify
the weaknesses of companies whose focus is on Finland.
“There are opportunities to buy good technology and
engineering companies and leverage existing international
sales channels,” explains Parvinen. “PE companies from
Sweden that specialize in small and medium-sized companies
have been re-engineering acquired Finnish companies’ sales
and marketing operations, and creating lots of value.”
A recent example comes from telecoms giant Nokia,
which sold its luxury mobile brand Vertu to Swedish PE fund
EQT VI in October 2012, for €200m (US$265m).
However, there are drawbacks for outsiders looking for
opportunities. And even financially generous offers may
be refused. Parvinen adds: “A lot of Finnish boards see no
need to grow. They are concerned about stability, corporate
social responsibility and local impact. Finnish companies
often value these factors more highly than their international
competitors.” To get Finnish companies on board, a bidder is
likely to have to stress a shared commitment to ethical values
and to the retention of operations in their traditional locality.
In addition, like much of the Nordics, Finland has fairly
high costs compared with other regions. “To combat this,
there is always a focus on technological development and
automation. There is always a need to be ahead of the pack,”
says Parvinen. For instance, telecoms giant Nokia runs the
Nokia Research Center, which has links with nine leading
global universities through its Open Innovation scheme.
Outside investors would be wise not only to look at how
Finnish businesses are exploiting emerging technologies, but
also to maintain a close watch on research being conducted
by respected academic institutions, such as Aalto University.
Denmark: consolidating to recover
Of the Nordics, Denmark has been worst hit by the financial
crisis, with its banking sector damaged by over-exposure to
inflated property lending. Its GDP grew by 0.8% in Q3 2012,
before falling by 0.9% in Q3, according to figures from Trading
Economics. This performance is mirrored by M&A volumes,
which fell to 40 deals in Q1 2013 compared with 46 in Q4
2012. The largest recent inbound deal was the purchase of
Dako by Agilent Technologies in June 2012 for US$2.2b.
Coming together
Denmark’s financial problems create opportunities for
potential investors in the country, with some banks looking
to offload properties at reduced prices.
This consolidation across Danish industries brings
opportunities for corporates, both foreign and domestic.
Bø says: “I see opportunities in Denmark in the property
and construction sectors. You will see a consolidation of
construction companies.”
Sometimes, this can come from foreign sources. For
instance, French manufacturer Poujoulat bought Danish
steelmaker VL Staal for an undisclosed fee in January.
Significant M&A activity is also taking place in other
sectors, particularly where restructuring and international
consolidation can yield synergies. Online bookmaker
Sportingbet bought Danish betting companies Danbrook and
Scandic in 2011 for £8.5m (US$12.8m). Sportingbet is now
in the process of being acquired by betting chain William Hill.
Despite the turbulence, Denmark has considerable
inherent strengths, including biotechnology. Denmark
is recognized by the European Commission as being in
the top four EU countries for biotech performance. The
Nordics generate 10% of EU biotech businesses, with
successful Danish businesses including Novo Nordisk and
Novozymes. Novo Nordisk, in particular, has posted strong
2012 results, with its share price increasing by over 100%
since 2010, becoming the most highly valued company in
the region.
It isn’t just conglomerates where Denmark has the
edge in biotech. Aarhus, Denmark’s second-largest city,
is in the top 10 EU biotech clusters. The sector’s lobbying
agency, Dansk Biotek, reports that there are more than
150 Danish biotech companies now developing innovative
industrial products.
The World Bank’s Doing Business 2013 index lists the
country as the easiest in Europe in which to do business and
the fifth easiest in the world. On top of this, it is still one of
the world’s leaders in further reducing regulatory burdens.
For further insight, please email editor@capitalinsights.info
www.capitalinsights.info | Issue 6 | Q2 2013 | 31
Top three completed Nordic outbound deals since April 2012
Completion Target Buyer Deal value
DEC
2012
Inoxum
(Germany)
Outokumpu Oyj
(Finland)
US$3.1b
AUG
2012
BSN Medical
(Germany)
EQT Partners
(Sweden)
US$2.3b
JUL
2012 EMEA tissue
business (US)
Svenska
Cellulosa
Aktiebolaget
(Sweden)
US$1.8b
Source: Mergermarket
Top three completed Nordic inbound deals since April 2012
Completion Target Buyer Deal value
JUN
2012
Statoil Fuel &
Retail (Norway)
Alimentation
Couche-Tard
(Canada)
US$3.7b
MAY
2012
Ahlsell Sverige
(Sweden)
CVC (UK) US$2.4b
JUN
2012 Dako (Denmark)
Agilent
Technologies
(US)
US$2.2b
Source: Mergermarket
