The view from the Direct Investments team – Bernard Dale Q4 2023

Most commentators agree that the economy is not deteriorating, but nor is it expected to improve in the near future, so we are in a period where value growth very much depends on the qualities of each business and its individual market dynamics. The success of our portfolio is our number one priority (ahead of dealmaking), and we are pleased to report that the overwhelming majority of our private equity (‘PE’) portfolio companies are growing revenue and profit year-on-year – as they should be. 

While growth in the last 12 months is not at the level we and our management teams are targeting, our since-inception portfolio shows a healthy 1.8x increase in both revenue and EBITDA (year of investment to year of exit or current year), indicating that PE value is accruing at a decent rate. Our less mature private debt portfolio, which contains lower growth, lower risk investments, also shows a positive performance. 

Noteworthy portfolio activity includes: 

• Starbucks franchisee 23.5 Degrees opened its 100th store earlier this year, and now has 103 sites. It expects to break the £100m revenue mark this year with further expansion underpinned by a pipeline of new sites 
• Brompton Technology won an Emmy for Outstanding Achievement in Engineering Science and Technology for its LED video processor which is transforming how TV shows are created 
• Cargostore has expanded in scale with well over 3,000 DNV and Intermodal units available for hire with further growth anticipated from active markets across the globe, particularly offshore wind farms 
• Bredbury Hall Hotel has repaid more than 60% of its £4.4m loan from cash generated, more than three years ahead of plan, with full repayment anticipated in 2024, leaving the investment in which clients own over 70% equity at nil cost 
• The Light Cinemas opened its 13th site in Redhill, another cinema/leisure/eating destination venue. Its trading is ahead of plan 
• Rosa’s Thai has announced its 39th store opening in Westfield, London 
• ACT has secured a contract to provide cleaning services to London’s prestigious Peninsula Hotel 
• Phoenix is expanding its learning and residential sites for children and young adults with Special Educational Needs, with a new school in Berkshire 
• The list goes on. Even though the low growth economy is acting as a drag on PE growth, our portfolio is appropriately funded and is therefore in a position to deliver further value. Our target is to maintain our record of 2.8x investment across our realised PE exits 

When it comes to exits, however, the general M&A market has slowed, with economic uncertainty and high debt costs halving the number of transactions in Europe in the first half of this year compared with its 2021 peak, according to law firm CMS¹. This has impacted our exit activity too. Having launched a few ‘soft’ processes in 2023 to test market appetite, we concluded that for two business deferring exits is the right option. This is a common theme in our industry, but activity is expected to bounce back once central banks cut interest rates. 

Nonetheless, we recently completed an exit from Doree Bonner, one of our private debt investments. This returned 1.6x in four years, which is exactly in line with the business case proposition for a first charge loan with a 10% option in a £18m t/o business that has grown well during the investment period. We have a second company, a PE investment, in an exit process with international trade buyers in play, which we hope to conclude in Q1 2024. 

We remain choosy about new investments. We’ve kept our nerve in a competitive PE market, avoiding auction processes, and have secured two new £3m+ EBITDA MBO investment opportunities. Both have a great combination of impressive growth potential and low risk deal structures, with low or no third party debt (and so are effectively ‘in the money’ from day one). This type of investment offers a blend of upside growth and potential to be value-creative even at a standstill EBITDA. Deals like this have served us well in the past, and we will continue to seek them out.

Sources:

1. Turning the Corner? CMS European M&A Outlook 2024