PrIVATE EQUITY • CAPITAL MARKETS AND FINANCIALINSTITUTIONS İNGİLİZCE İŞLETME DOKTORA PROGRAMI ALAATTIN YOLAÇTI
PresentatIonlayout PRIVATE EQUITY – OVERVIEW 1 PRIVATE EQUITY FUNDS 2 KEY ISSUES IN PRIVATE EQUITY APPLICATIONS 3 PRIVATE EQUITY MARKET 4
WHAT IS PRIVATE EQUITY (PE)? • Financing is a criticalkeysucces of a business • PrivateEquity (hence on PE) is alternativemethodtothatmaymeettheneeds of entrepreneurs • PE is theprovision of equitycapitalbyfinancialinvestorsoverthemediumorlongterm on companieswithhighgrowthpotential • Equityowner can join in management of thebusinessor can join • byinformationsharingduetoreasons ; • Theentreprisemayhavelessexperiencethantheinvestor • Theinvestormaywanttohave a controloverthecompanytolower risk
WHAT IS PRIVATE EQUITY (PE)? -2 • Thesystembrieflyworks as follows ; • Equityownersuppliescapitaltoentrepreneur in returnforstocks of projectbyparticipatingrisks of projects in oppositiontootherfinancialassociations • After 5-10 yearswhenthestockscomeintovalue at the market , equityownersellsthemandgainsrevenuefromthisinvestment. • Theexpectedprofit rate fortheinvestor is annually %18-%35 ormore in developingmarkets
WHAT IS PRIVATE EQUITY (PE)? -3 • PE is largelyappliedtothecompanieswhoseinvestmentsarenotquotedtothecapital market • It is classifiedunderthetitle of “ alternativeinvestments” • PE is high-risk highprofitclass as well as an alternativefinancetypeforthesmallandmediumsizedenterprises • PE can alsousedforbuyoutswhereinvestortakethecontrolofthecompany , reconstruct it andfinallysell it to a strategicbuyeroroffer it topublic BUYOUT : The purchase of the entire holdings or interests of an owner or investor.
PRIVATEeQUITY VS.lISTED EQUITY • PRIVATE EQUITY • LOW LIQUIDITY • LONG INVESTMENT HORIZON • HIGH ACTIVE INVOLMENT • LOW MARKET EFFECIENCY • NO PUBLISHED INFORMATION • LOW REGULATORY OVERSIGHT • LISTED EQUITY • STRONG LIQUIDITY • SHORT OR LONG TERM • LITTLE ACTIVE INVOLVEMENT • HIGHER MARKET EFFECIENCY • PUBLISHED INFORMATION • HIGHLY REGULATED
Why do companIES SEEK PE? • PrivateEquity is an alternativeoptionfor a company on similiarcaseslisted as follows ; • Create a business • Improveanddeveloptheexportperformance • Recruithighlyqualifiedpersonnel • Sellpartorall of thecompany • Changethe size of thebusinessandtakeoneovercompetition • Launch a newproduct • Improvethemanagementcapacity • Liquidisesome of theassets
What IS A PE FIRM LOOKING FOR? • Highgrowth, competitiveproductsorservices • Inthecase of disposalor transfer, a loancapacityandrecurringprofits • A qualityandstablemanagementteam, capable of turningthenegotiatedgoalsintoreality • A solidmanagementprocedureseitheralready in placeorabletoto be put in place • A transparent legal structurewherepersonalandprofessionnalassetsare not entangled • An agreement on theinvestor’sexitwithorwithoutthehead of company
Cons & pros • CONS • HighRevenues • Increasesportfoliovariety • Abletoreachtheinformation of theenterpriselegally. (Insidertrading is not legal in theStock Exchange Market) • MoresecuretoexternaleconomicfluctationsthanthatStock Exchange Market • CONS • HighRevenues • Increasesportfoliovariety • Abletoreachtheinformation of theenterpriselegally. (Insidertrading is not legal in thestock Exchange market) • moresecuretoexternaleconomicfluctationsthanthatstockexchange market • PROS • Excessivelevels of debttoacquirecorporatipns • Longterminvestment (minimum 3 years) • Investorsrightstoexit is restrictedwithintheperiod • Highliqudity risk • PROS • Excessivelevels of debttoacquirecorporatipns • Longterminvestment (minimum 3 years) • Investorsrightstoexit is restrictedwithintheperiod • Highliqudity risk
PRIVATE EQUITY VS. VENTURE CAPITAL-2 Definition of PE by NVCA (NatioanalPrivateEquityAssosication ) : VentureCapital is thecapitalprovidedbyinvestingprofessionalswhohavethepotentialto be a significantparticipant Definitionby SPK (TurkishCapitalMarkets Board): VentureCapital is a form of investmentwhichenablesdynamicandcreativeentrepreneurswhodon’thaveadequatefinancialpowertofullfiltheirinvestmentideas. • THE PHILOSPHY IS SIMILIAR IN NATURE • VENTURE CAPITAL IS THE SUB-BRANCH OF PRIVATE EQUITY BESIDES INVESTING IN EARLY STAGES
PRIVATE EQUITY VS. VENTURE CAPITAL • Venturecapitalandprivateequitytermsarelargelyused as a substitute • foroneanother but has slightdifferences • VENTURE CAPITAL • Venturecapitalinvestorsinvestcompanies at earlierstages • Provide an initialcapitalto an idea or 1-3 yearsoldcompanies. (Deloitte,2007) • Includesthefinancialsupport in earlystages • It has a particularemphasis on on entrepreneuralundertakingsratherthannature of thebusiness. • PRIVATE EQUITY • Investors of privateequitygenerallydonotinvest on idea orprematurecompany • require a background of 3-10 yearsincludingoperations. • Privateequity not onlyincludesthefinancialsupport in earlystages but also in theexpansionstages • Moreemphasis on businessitself
Stages of a companydevelopment SEED : Seedfinancing is designedtoresearch, asses, an develop an idea before a company has reached start upphase . Investorsaremainlybusinessangels . START UP : Start upfinancing is usedforproductdevelopmentandinitial marketing phase . Capital is mainlyrequiredfor R&D of theproductandtrainpersonnel. (Especiallyforelectronics, life sciencessectors.) POST CREATION : Business has alreadydevelopeditsproductandneedscapitaltobeginmanufacturingandsell it. Yet no profit has beencreated EXPANSION DEVELOPMENT : Business has approachedornear break evenpoint. Highgrowthperiod, capital is usedtoincreasecapacityandsalespower TRANSFER/SUCCESSION : The total orpartialretirement of thehead of a company is often an opportunitytoimplement a leveragedoperation.
PE INVESTMENTS & FUNDS 2
PE INVESTMENT METHODS-1 • DIRECT INVESTMENT : • Theinvestorhimselffindsthecompanytoinvest • Analysis, investsandterminates it when it is time. • Highrevenue but has a risk of loosinginvestedcapital • Onlysuitableforexperts in PE / Lessusedway • II. IN HOUSE PE FUND INVESTMENT : • Investorsinvesttheirextrafundsto a PE investmentfund • Proffesionals in thisfundareexperts in findingenterpriseswhichwill be invested in • Analysis, investments ,managementand time toquittheinvestmentare done bytheseprofessionals • III. INVESTING IN FUNDS OF FUNDS : • A fundmanagerevaluatesvariousprivateequityfundsandchoosesamongthemanddistributestheselectedfunds • Investorshaveto pay extraexpensestothemanager as a consultancy service fee
PE INVESTMENT METHODS-2 TYPES OF PE INVESTMENTS • Source : M.Yardım,PrivateEquity as an alternativefinancialmethodthatsupportEntrepreneurship: Turkeymcıoğlu, N.Demirel, 2008, “Case”, KMU İİBF Dergisi Yıl: 10 Sayı14 Haziran/2008
HOW DO PE FUNDS WORK? • Source : Guide on PrivateEquityandVentureCapitalforEnterpreneurs, EuropeanVentureCapitalAssosiationPublications, November 2007
LIFECYCLE OF PE FUND : underwrITINGS-1 • CREATION OF A FUND AND UNDERWRITING BY PROFFESSIONAL INVESTORS : • PE managementcompanies (General partners) afterobtainingtheagreement of controllingauthoritiesestablishinvestmentfundsthatcollectcapitalfrominvestorsknown as Limitedpartners • Thiscapital is usedto buy highpotentialcompaniesknown as theportfolioorinvesteecompanies • PE fundmanagersinvitetheinstitutionalinvestorstosubscribe an investmentfundfor a period (usually 10 years) • Thefundraisingperiodlastsfor 6 monthstooneyear
LIFECYCLE OF PE FUND : underwrITINGS-1 • Usuallyinstitutionalinvestorscannotleavethefunsbeforetheirtermscompleted • Investorsgetprenegotiatedstake in theequity of theinvestmentandtheybecomefullyfledgedsharedholders, sharingtherisks • Theinvestorsaimusually is not totakethecontrol of thecompany (thereareexceptions) but tohelpcreatevaluetorealise a capitalgain.
LIFECYCLE OF PE FUND : INVESTING • 2. INVESTING THE FUND : • Oncethetargetamount of capital has beenraised, thesubscription is closed • Insomecases (in Europe %30) PE fundscometogetherto form a “financialsyndicate” tomake an investment in case of large size capitalneedsandhigh risk. • One of theinvestmentcompanyrepresentsthegroup in thesyndicatedealingwiththeenterpreneur • Theprivateequityteamusuallymakestheinvestments in thefirstfiveyears of thefund
LIFECYCLE OF PE FUND :managIng • 3. MANAGING THE INVESTMENT • Thefundmanager on behalf of theinvestors is concernedwithcreatingvalue in thecompany, • He willfollowtheinvestmentoverlong time periodandprepareexitconditions.
LIFECYCLE OF PE FUND : exIT • 4. REDISTRIBUTION : • Whenthefundmanagerdecidestoexittheirinvestment, thecapitalrecoveredfromtheexit is redistributedtotheoriginalinvestors on a pro-ratabasisdepending on theirinitialinvestment • EXIT ROUTES : • TradeSales (Merger & Acquisitiontradesales, morecommonway) • Enterpreneurormanagementteamrepurchase • Sale of theinvestmenttoanotherfinancialpurchaser (Secondary Market Investor) • IPO (Initialpublicoffering) : Flotation on a publicstock market • Liquidation
TYPES OF PE FUNDS • PE FUNDS CAN BE CLASSIFIED ACCORDING TO THE SHAREHOLDER • PERCENTAGES AS FOLLOWS • INDEPENDENT FUNDS : fundswhichthethirdpartiesarethemainsource of capitaland in which no oneshareholderholds a majoritystake. An independentfund is themostcommontype . • CAPTIVE PE FUNDS : Fundswhichoneshareholdercontributesthemost of thecapital. • SEMI CAPTIVE FUNDS : Funds in whichagainthelargepart of thecompanybelongstooneshareholder, but a significantshare of thecapital is raisedfromthirdparties.
KEY ISSUES IN PE APPLICATIONS 3
BUSINESS PLAN • Theprocess of attracting a privateequitycompanystartswith a Business Plan • It is themaintoolusedbyfinancialinvestortoevaluatebusiness • CONTENTS OF BUSINESS PLAN : • ExecutiveSummary • CompanyHistory • ManagemetTeam • Products & Services • Analysis of the market & competitors • Commercialisation • Operationalmanagement • FinancialProjections • CapitalRequired • ExitPossibilities
DuedILLIGENCE • Avabiality of the market • Managementquality • Geographicalsituation • Proximitytothe market • FinancialForce • SWOT analysis • Effeciency of the Project • owner • Advantageoverrivals • Sharing of stocks • Patent rights • Legal infrastructure
CompanyvaluatIon • Valuationbetween PE Firmandthetargetcompanyshould be covered in theagreement • No purequantitativemethods, usuallybased on hypothesisthatmay be subjective • Diffuculttoapplyespeciallyfor start upcompanies • GENERAL METHODS USED IN VALUATION • DiscountedCashFlow- Ifcompany has already has a positivecashflow • ComparativeMethods– Usingsimiliarprice/earningratiosfor a similiarcompany, havewideapplicationareas • OpportunityCost - OpportunityCosts of theinvestorsiftheyinvest in differenttools
What do thepefundmanagers do? • FundManagershavefourprincipalroles : • FundRaising : Fundsareraisedfrominternationalinvestments, many of whicharepensionfunds, banks, insurancecompaniesandhighnetworthindividuals. Theinvestmentsareusually as limitedpartnership. • Sourcinginvestments: A PE foundmustsourceandcompletesuccesfultransactionstogenerateprofit. • ActiveManagement of Investments : PE managershavebecomehands-on managers of theirinvestments. Theydon’tinvolvedaytodaycontrol, insteadactivelyinvolved in settingandimplementation of thestrategy. • ReleasingCapitalGains :Theacademicevidenceshowsthatthere is a widevariation in thelength of time of the PE investment.
Howarepefundmanagersrewarded? • SALARY • FEE INCOME : • Receivemanagementfeesthatareexpressed as a percentage of thefundsraised. • Largerthefundsgreatertheincomealthough 3 % in smallerfunds, 1-1.5% in largerfundsforoperatingcosts (sometimescauseprincipalagentproblemsbetweenfundmanagementandinvestors) • CARRIED INTERESTS : • Share in theprofits of the of thefundknown as carriedinterest • Oncetheinvestorshaveachievedthe a certainpre-agreed rate of return (hurdle rate) , thefundmanagersshared in theexcess (usuallythe %20 of theexcessamount) • Thehurdle rate is around %8 perannum
PE APPLICATIONS IN THE WORLD • PE has been a majordrivingforce in technologicaladvance in the USA, Japan, Germany, CanadaandEngland • HistoricallyDigitalcompanywasthefirstoneconstructedwithventurecapital. • Constructedwith 70,000 $ and in fiveyears time reached a value of 3,5 billion $ soldtoCompaqfor 10 billion $ in 1998 • PE housesannouncedmore than 2,000 deals globally worth a total of over $236 billion in 2010
PE APPLICATIONS IN TURKEY • InTurkey, financialsystemmostlydepends on bankingsector • Especiallythe SME (KOBİ) cannotbenefitfromtraditionallyrecognisedbankingsystemadequatelyduetoMcMillanGap • Accordingto a surveymadeby ITO andpiaramong 4671 smallenterprises %78 of theircapital is providedbythemselves, only %7 byshort time bankingcredits • First legal regulationsaremadeby CMB (SPK), afterthatthefirstfoundwasconstructedby Vakıf Risk Capitalestablished in 1996 MC MILLAN GAP : The name fortheresearchwhichsucceded in detectingthefactthattraditionalbankingsystem is largelydivirtedtolargewellknowncorporationsthereforehinderingSMEs
PE INVESTMENTS IN TURKEY (Between 1996-2007) – cont.
PE INVESTMENTS IN TURKEY (Between 1996-2007) – cont.
PE INVESTMENTS IN TURKEY (Between 1996-2007) – cont. Source: Resource: Deloitte, “Private Equity in Turkey – A Practical Guide for Turkish Companies and Investors”, 2007, pp.16-17.
PE INVESTMENTS IN TURKEY (Between 1996-2007) – Cont.
ConcludING REMARKS • Researchesshowthatthecountriesthathavehighentrepreneurialactivities had provided a growthaboveavarages • KOBI’s which are supposed to vitalize economy and • Industry life has to work out alternative financial methods • Private Equity Applicationsshould be improvedto support • entrepreneurship in Turkey
REFERANCES • M.Yardımcıoğlu, N.Demirel, 2008, PrivateEquity as an alternativefinancialmethodthatsupportEntrepreneurship: Turkey “Case”, KMU İİBF Dergisi Yıl: 10 Sayı14 Haziran/2008 • Akkaya G.C., İçerli, M.Y., 2001, “Kobilerin Finansman çözümünde risk sermayesi finansman modeli”, Dokuz Eylül Üniversitesi Sosyal Bilimler Dergisi, Cilt 3, Sayı 3,2001 • Guide on PrivateEquityandVentureCapitalforEnterpreneurs, EuropeanventurecapitalAssosiationPublications, November 2007 • PrivateEquityDemistified, An ExplanatoryGuide, J.Gillian, M. Wright, 2nd edition, CorporateFinanceFacultyPublications • Global PrivateEquityWatch, ErnstYoungYearlyReport, 2011