Corporate Communications

The region has returned to its chrysalis as the credit crunch has taken hold

25 May 2009

Financial News: Private Equity News
25 May, 2009

The shock of the credit crisis has left central and eastern European dealmakers in a similar situation to that described in Czech novelist Franz Kafka’s most famous short story, Metamorphosis. It is as if they have woken up one day to find themselves beetles and are so horrified they will not do deals.

As the credit crunch took hold, the value of deals in central and eastern Europe in the first quarter this year fell to its lowest level in nearly seven years, with $31m (€22.5m) invested across just nine deals, according to data provider Dealogic. This was a 99.3% decrease from the $4.5bn invested in the same period last year.

The largest disclosed deal in the region was southern European mid-market firm Ged Group’s acquisition of Romanian medical supplier Diamedix Impex for $15m. Other deals included Russian buyout firm Marshall Capital Partners’ $5m acquisition of a 25% stake in Russian baby-food manufacturer Nutritek Group, and Enterprise Investors’ acquisition of a 36% stake in cosmetics-marketing company Bio Profil Polska for $4m. Firms in the region only exited one deal – through a trade sale for an undisclosed sum.

Tycho Sneyers, a partner at fund of funds LGT Capital Partners, said: “The economies have been hit hard, which will mean a negative impact on private equity returns. Leverage has been typically more limited and that, of course, is a positive, given the environment. Overall, it will not necessarily do worse than other parts of the private equity universe.”

The region has been hit by the recession spreading from developed markets. Bill Watson, chief investment officer for the region at Société Générale Asset Management Alternative Investments’ private equity division, said central Europe was well positioned, having entered the downturn later than other regions. “The advantage central Europe always has is it knows what is coming. Its speed of adaption is much quicker. [However,] central Europe was also experiencing very strong growth, so it had farther to fall.”

Some regions have been hit harder than others. Watson said: “Nancy Reagan used to say: ‘The best response to drugs is just say no.’ There are probably some regions where we’d just say no now.” Watson declined to specify which regions had been hardest hit.

Frantisek Tregler, the head of the investment risk department at local firm Penta Investments, said: “The worst situation is in Hungary, where monetary and fiscal policy is ineffective. There are expectations the GDP drop may be deeper than the forecast 4% or 5%.” He said consumer confidence was also weak in the country.

Jacek Siwicki, the president of Polish buyout firm Enterprise Investors, added he felt the Baltic regions had been particularly damaged by the crisis.

However, Tregler said some countries were bearing up well. He said: “I can already see the light at the end of the tunnel in Poland and the Czech Republic.”
Christina Koycheva, a senior associate at local law firm Wolf Theiss, said: “Activity is slower, due largely to restrictions on debt financing. Banks are very, very careful.”

Koycheva said the environment has improved since the first quarter. She said: “Private equity could be one of the ways of getting out of the current situation. It seems like things are picking up but it won’t be at a fast pace”. In certain markets, the lack of leverage was a problem even before the crisis. As such, difficulties in the debt markets are perhaps less of an issue for the region.

Tim Demchenko, head of private equity and special situations at Russian firm VTB Capital, said: “Leverage has not been something that has featured as a significant part of the [Russian] market. Leveraged buyouts were rare and a typical deal was mostly in equity form. Given the lack of available credit, I don’t see that changing much this year.”

That said, the region’s buyout market has grown significantly with several billion-dollar deals before the credit markets imploded in 2007. Tregier said: “Margins are slightly higher than they used to be and there is an increased pressure on fees. Conditions are tougher and you have to discuss covenants more precisely… The situation is such that there is no money lying on the street like it used to be a year ago – but financing is still doable.” He added Penta has secured informal commitments from banks in the region to invest ?250m alongside its deals, providing the firm (which itself has about ?250m to invest) with the ability to close deals despite difficult markets.

Similarly, Siwicki said: “We have never used a lot of debt financing. It is harder to raise leverage but we don’t understand this nervousness about… all-equity deals. We already know how to make money on all-equity deals.”

However, he added a key break on dealflow was sellers not accepting lower prices that would make deals with less leverage attractive.

Vladi Gorelik, a director at VTB, said: “We see two potential investment themes coming to fruition in this market. Strong operating companies with short-term liquidity issues seeking capital, or savvy management teams looking to capitalise on current market opportunities by consolidating weakened competitors.”

He said this situation presented his firm with investment opportunities at companies that had previously been unavailable.

The optimism of those in the markets coming to terms with the change in the region’s prospects could still provide hope. Watson said: “My answer to existing investors is: the reason you invested still exists – with tremendous growth potential when the region comes back. Its export nature, which has hurt the economies, will pick up again when demand picks up and it will fulfill its role as one of the production engines of Europe.”

The region’s investors will be hoping their difficulties doing deals do not augur the fate of Kafka’s beetle-man. The metaphor would involve deals dying a nasty death, having never got off the ground again. Fortunately, no-one in the region is quite as pessimistic as that.


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