FAQ

Virtually every company, public or private, has a capital structure made up of equity (stock) and debt (bank loans, bonds, etc.). When a private equity firm acquires a company, they usually invest using equity from their fund(s) and loans normally provided by banks or the bond market.

Within venture and expansion cases, there is normally no leverage.

Within the buyout segment, private equity firms, more often than not, use debt to acquire portfolio companies, but this debt is maintained at the portfolio company level. The typical capital structure of the companies acquired by a private equity fund is approximately 60 percent debt and 40 percent equity (though this proportion can vary based on the cost of credit, the economic outlook, and the nature of the business).

Higher levels of debt will increase risk. It will also increase the potential for high return on the investors’ equity (and vice versa). Studies show that the leverage level is an important factor in mitigating agency problems because management needs to focus on the right goals, and reduces capital spending on non-bottom-line improving items.

Source

 

 

Private equity transactions involve a variety of different business structures.

Private equity investments may be an injection of new capital into a private company with the intent of providing its founders or current owners with the capital necessary to take the company’s performance to the next level.

It may involve the acquisition of a non-core division of a large company, with the purpose of offering the newly-independent business and its management focus and the resources needed to achieve their goals in a more effifient way.

Private equity transactions may also involve “public to private” deals in an effort to undertake operational improvements that would be difficult to achieve under public ownership given the relatively strong focus on the quarterly earnings of public companies.

Prior to the recent stock market meltdown, public-to-private transactions had had their share of the limelight. In 2006, private equity took companies worth a total of USD 150 billion (article cited in the Financial Times) from the public to the private market. If these companies were to be brought back to the public market through IPOs (Initial Public Offerings), the private equity managers would have spent this time in between by trying to increase the value of these businesses. By means of public–to-private transactions the ownership structure in industries can move from a large number of more or less passive shareholders to a much smaller number of active private owners.

 

A study led by Professor Josh Lerner (Jacob H. Schiff Professor of Investment Banking at Harvard Business School) on 5,000 U.S. transactions over a 25-year period, commissioned by the World Economic Forum, found that U.S. companies owned by private equity firms are significantly more likely to pursue economically important innovations than companies that are not owned by private equity investors.

Professor Lerner research has also concluded that private equity firms patent six times more than firms under different ownership.

To read more about how private equity companies promote research and development see:  Private equity investment spurs innovation

Argentum focuses on the Nordic private equity market. We therefore do not have comprehensive global private equity statistics. However, it may possible to find relevant market statistics by country or region by searching national venture and/or private equity associations. 

We have listed the Nordic venture and private equity associations below.

EVCA (Europe)	SVCA (Sweden)
NVCA (Norway)	NVCA (USA)
DVCA (Denmark)	FVCA (Finland)

 

Argentum does not invest directly in companies.

Argentum is an investment company that participates as a limited partner, which means that Argentum invest solely in private equity funds and not directly in portfolio companies.

It is the private equity managers that we have invested in that in turn invest directly in portfolio companies. This means that Argentum is only indirectly involved in investments at the company level.

 

Our mandate, set out at our inception in 2001, dictates the restrictions of our investment activity. Our purpose, in addition to maximizing the financial return from the fund investments, has been to promote and facilitate the development of a Norwegian private equity industry. This is thought be best achieved by investing in Nordic funds.

Since 2001, both the Nordic and the Norwegian private equity market have become more mature and cross border investment activities have increased. Norwegian fund managers are investing more outside of Norway, and private equity fund managers in Sweden, Finland and Denmark (also fund managers outside the Nordic region) are investing in Norway.

We believe our networks and local knowledge help us select the best Nordic fund managers.

 

Over time, private equity investments often slow or halt existing job losses and under some conditions can drive significant job growth, according to two recently published studies. A 2008 study of 5,000 transactions over 25 years commissioned by the World Economic Forum and led by Harvard Business School Professor Josh Lerner concluded that private equity portfolio companies, prior to PE acquisition, were, on average, losing jobs at existing facilities at a rate one to three percent faster than their competitors. After a private equity investment or acquisition, those same companies initially experienced a dip in employment but by year four under private equity ownership, employment rates rose to slightly above the industry average. Source

The WEF study also concluded that during the first two years of investment, private equity firms increased the rate of job growth at new U.S. facilities built by their portfolio companies to six percent above the peer industry average.

Another study, conducted for the Private Equity Council by Dr. Robert Shapiro and Dr. Nam Pham, concluded that acquisitions of large companies by major, U.S.-based private equity firms between 2002 and 2005 resulted in a direct and positive impact on U.S. employment. Across 42 companies, 26,214 net new jobs were created — an increase of 8.4 percent over their combined employment of 310,420 at the time of acquisition. Seventy-six percent of the sample recorded job gains, while less than 24 percent reduced employment. Among a subset of 26 firms providing data on U.S. employment, domestic jobs by private equity-backed firms increased 13.3 percent (or 13,861 net new jobs), compared to 5.5 percent for all U.S. businesses and 2.7 percent for large U.S. businesses. For manufacturing companies, employment increased 1.4 percent, while employment in the overall US manufacturing sector dropped by 7.7 percent during the same period. Source

Finally, a 2007 study conducted by Ernst & Young determined that in 80 percent of the cases that were studied, employment levels at PE-owned companies were the same as, or higher, at the conclusion of a PE investment than they were at the beginning. Source

 

Argentum carries out an extensive selection process (so-called due diligence), based on our best practise selection criteria in order to maximize expected returns.

Read more about our selection process

Argentum is not restricted to a particular number of investments, or amount of capital commitments each year. Our commitments are based on a case-by-case evaluation following Argentum’s selection framework. This implies that in years with several new funds of high quality being raised, our commitments will also increase compared to years with fewer funds with satisfactorily quality.

Argentum has a good overview of Nordic private equity funds and which areas these fund managers invest in. We can give advice on how to approach the most relevant funds for specific investment cases. You can also use the entrepreneur guide and search the market database to find the right Private Equity owners for your company.

Search the market database

Entrepreneur guide (only in Norwegian)

Success stories

Private equity has been a favoured asset class for professional managers because it has historically produced superior returns. Annual returns over the past twenty years have averaged 13.7%, beating listed stocks, bonds, real estate, and most other forms of investment. Its risk is a reference to the importance of spreading investments over long time periods, in multiple industry sectors, and in a large number of investments. Professional money managers know how to do so, which is why Private Equity has a prominent place in large investment portfolios, even in conservative, but long-term ones like those of pension funds and university endowments.

According to a study by Ernst & Young, businesses owned by private equity in the US significantly outperformed their public company equivalents with regard to average annual growth in enterprise value by as much as three to one. Moreover, employment levels were the same, or higher, at exit versus entry 80 percent of the time. See Private equity partnerships improve the performance of their portfolio companies

Harvard Business School Professor Josh Lerner and research associate Jerry Cao found that between 1980 and 2002, the stock price of the firms PE companies brought back to the public equity market after operating them for more than a year rose faster than both the overall stock index and the share price of firms in the same sector not backed by private equity. Clearly, the PE firms were creating significant value. Source

A survey of 150 public pension plans, conducted by the Bear Stearns Pension, Endowment and Foundation Services Group and the Government Finance Officers Association, found that 52 percent of the pension plans have or plan investments in alternative assets over the next year. At 60 percent, private equity was second only to real estate (85 percent) on the list of current and planned investments in alternative asset classes (See Bear Stearns - a J.P. Morgan division).

The model has a strong focus on the alignment of interest. Normally, the interests of private equity owners (the GP and the LPs) as well as management are aligned in order to ensure that better decisions are made and there is long term value creation.

As a result, private equity-owned companies are better managed, and the corporate governance structure is stronger (see Persistent outperformance from fund managers).

Private equity investment makes companies stronger prior to entering the public equity markets. According to a 2006 study, the share price of companies owned by private equity firms for a year or more that went public between 1981 and 2003 out-performed the stock market as a whole over a three-to-five year period. The private equity-backed IPOs were on average much larger in size, more profitable, and were backed by more reputable underwriters.

See Private equity backed IPOs beats the market

Buyout investments are control-investments in more mature or later-stage companies. There are two kinds of buy-outs; leveraged buyouts (LBOs) and management buyouts (MBOs).

A leveraged buyout occurs when an investor acquires a controlling stake in a company’s equity, and where a significant percentage of the purchase price is financed through leverage (borrowing). The assets of the acquired company are used as collateral for the borrowed capital.

Companies of all sizes and industries have been the target of leveraged buyout transactions, although because of the importance of debt and the ability of the acquired firm to make regular loan payments after the completion of a leveraged buyout, some features of potential target firms make for more attractive leverage buyout candidates, including:

·         Low existing debt loads

·         A multi-year history of stable and recurring cash flows

·         Hard assets (property, plants, equipment etc) that may be used as collateral

·         The potential for new management to make operational or other improvements to the firm to boost cash flows

·         Market conditions and perceptions that depress the valuation or stock price

A management buyout is a form of acqusition where a company's existing managers acquire a large part or all of the company.

Private Equity is an asset class describing investments in privately held (as opposed to publicly traded) companies. Private Equity investments are very illiquid; investment commitments have typical durations of 7 – 10 years.

Private Equity firms receive their investment capital from Limited Partners (LPs). LPs usually consist of pension funds, foundations, and endowments which have large amounts of capital to invest. Private Equity is generally part of an LP's overall investment strategy that may include real estate, bonds, and publicly traded company stock.

The goal of every Private Equity firm is to generate a higher-than-market rate of return for its investors. The S&P500 is a typical benchmark against which returns are measured. The Private Equity industry generates returns by investing in the stock of private companies and subsequently generating a capital gain when the company is sold or becomes publicly traded.

A Private Equity firm typically has one or more funds that it manages. Each fund will have a stated investment strategy that describes aspects of investments it prefers. The investment strategy may include:

• Industries
• Geography
• Stage of deals, e.g., pre-revenue or post-revenue, growing or mature
• Size of total investment

Each fund has a General Partner (GP). The general partner is responsible for:

• Selecting the best investments or portfolio companies for a fund
• Working with the management of these portfolio companies to increase the value of the initial investment
• Developing a strategy for the fund to exit the investment within a given time frame

Private Equity falls into two broad groups: venture capital and other private equity.

 

Research shows that the average holding time for private equity owned-companies is 5.3 years. Only 16 percent of all private equity owned companies’ divestments take place in less than 24 months after acquisition. After five years, buyout investors continue to be involved as majority shareholders in more than 45 percent of their investments.

Source

Venture capital firms have the same business model as buy-out firms, but their focus varies. Venture funds invest capital in start-up and young companies with little or no track record. Buyout/growth funds focus on another part of the business cycle. They invest capital in more mature businesses that are underperforming or that have the potential to outperform the market with sufficient capital and normally by means of operational improvements.

They both seek to own and operate these businesses, typically for about five years, creating value by improving operations, governance, capital structure and the strategic direction of the companies in which they invest.

In recent years, the distinction between venture capital and buyout funds has blurred. Venture capital funds have been investing more heavily in companies at later stages of development, while private equity firms have been investing in companies that more closely resemble start-ups. In the end, both venture and private equity firms earn their money in the same way — by acquiring companies, developing them into healthier companies, and finally finding new owners and realize the value created.

 

According to EVCA data, there are more than 1,500 funds operating in the European market.

Venture capital describes investments in companies that are in the early life-cycle stages. Typically, venture capital finances new, rapidly growing businesses. Venture capital investments are generally high-risk investments but offer the potential for returns well above the S&P500. Venture capital is an important source of equity for start-up companies.

In seeking companies to purchase or invest in, private equity firms have focused on a number of broad categories including: struggling and underperforming businesses (e.g. Toys ‘R Us); unwanted divisions of large conglomerates, such as Dunkin Donuts or Burger King; promising or strong companies in need of venture or growth capital, such as Google, Microsoft, NASDAQ, Opera software, Trolltech and family businesses where the founders are seeking to transition beyond family ownership, like Hilton Hotels.

To succeed today, a private equity firm needs to bring much more to the table than financial creativity. According to a 2007 study by Ernst & Young, two-thirds of the earnings growth (before taxes, interest and capital expense) at private equity-owned portfolio companies came from business expansion, with organic revenue growth being the most significant element. Cost reductions accounted for only 23 percent of pre-tax earnings growth in U.S. companies. In other words, private equity investors add to the company’s strength by implementing significant operational improvements to the business. See Private equity partnerships improve the performance of their portfolio companies

Another study done for the European Parliament supports this view. The study found that private equity-acquired companies outperformed comparable publicly-traded companies in terms of sales (14 percent), earnings before taxes, interest and capital expense (five percent), and profitability (five percent) growth. See Private equity partnerships improve the performance of their portfolio companies

The private equity firm therefore adds new capabilities to the company it develops, grow revenues and markets, and the best private equity managers therefore have deep expertise in the sector in which the investment is being made; and implements a performance based culture and incentives to assure entrepreneurialism and results in addition to adding managerial and functional capabilities.

Argentum has compiled an extensive overview of the majority of established private equity funds in the Nordic region. You can find this overview in our market database.    

Please be aware that Argentum's market database only includes publicly available information.

EVCA, in co-operation with Thomson Financial and PricewaterhouseCoopers, carry out an extensive annual research about the European Private Equity market. This report shows amount of capital raised, investments, realizations, returns etc.  For more statistics, see also “Insight” at Argentum’s homepage.

EVCA

Thomson

The investors are mostly institutional investors, including banks, governments, public and private pension funds, endowments and foundations. Public and private pension funds, endowments and foundations account for 70 percent of the funds invested with the top 100 PE firms since 2005, according to Preqin.

The 20 largest U.S public pension funds for which data is available (including the California Public Employees Retirement System, the California State Teachers Retirement System, the New York State Common Retirement Fund, and the Florida State Board of Administration) have invested nearly US 140 billion on behalf of their nearly USD 10 million beneficiaries.

The companies that are owned by private equity will typically have long term and knowledgeable owners, increasing their competitiveness. See PE partnerships improve the performance of their portfolio companies

Also the investors, typically public and private pension funds, endowments and foundations, receive returns that beat the public market indices. See Why should you invest in private equity?

For economic growth, private equity create higher economic growth than other ownership structures, and also result in increased job creation, increased capital expenditures, increased productivity and increased innovation.

Over the last few decades, it has been written about the quarterly-earnings pressure of the public market, restraining long term investment and growth.  It is well documented that decisions made to satisfy investors in the short term may not be in the best long-term interests of the business.

For example, faced with a major R&D investment that could depress earnings and the company’s stock price, management might opt not to make the investment to keep the stock price higher.

Similarly, a public company CEO might not pursue a strategic acquisition that made long-term sense if the short-term effect would be to dilute the earnings that large institutional investors use quarter-to-quarter to guide their stock buying and selling. In contrast, private equity firms are able to focus on long-term performance, and therefore have a record of heavy capital expenditures in their companies in addition to investments in increased workforce. See Private Equity – by far the best accelerators of increases in capital expenditures  

Some people would argue that there is lack of capital available in the early in the value chain of new start-up companies in Norway. Based on our mandate it could be argued that this segment should be our core investment space.

However, as Argentum is seeking to maximize its return and historically the venture segment in the Nordic region has not provided satisfactory returns to the investors. Even though the venture segment in the region has not performed very well in general, Argentum has committed a relative high share of its capital to this sector (compared to the share venture fundraising represents of total Nordic fundraising), i.e. Northzone, Viking Ventures, Verdane Capital, Energy Ventures, Teknoinvest, Creandum etc. This can be explained by our belief in the market opportunities for the best VC fund managers in the coming years.

Compared with a European benchmark the Nordic buyout segment has a higher performance, and has served as a crucial component in the increased overall fundraising in the Nordic region. As the return from the buyout segment has been higher than comparable venture performance (that has higher risk, leading to a much more efficient risk/return proportion), the investors have consequently increased their allocation to buyout. Argentum also believe in the importance of re-structuring and re-vitalization of mature businesses. Private Equity / buyout investors are capable of developing such companies, better than many other investors, increasing the value creation for both investors and the state’s economy as a whole.

Argentum has two main activities: source –and select top quartile Private Equity fund managers in the Nordic region, and serve as a facilitator for developing the Norwegian Private Equity industry. The first activity is covered by the organization’s investment team, now counting eight highly specialised investment professionals. We believe that a highly competent and specialized investment team that carries out thorough selection process serve as a key success factor in order to source and to select the top quartile managers. Having adequate resources to carry out these investment processes are particular important within private equity, because the performance distribution among the different funds are quite significant, and consequently a high selection premium can be earned.

Our mandate states that we shall facilitate the development of the Norwegian private equity industry, thus we have dedicated resources to comply with this mandate.

However, in addition to the effect this role has in order to be a positive contributor to the Norwegian PE landscape, this also has a positive branding effect for Argentum in terms of being a “leading Nordic PE investor”. 

Private equity has delivered superior returns to investors over the past two decades. Research by Professor Steven Kaplan of the University of Chicago, has shown that over the last 20 years the top buyout funds usually generate returns more than triple the overall returns of the US stock market. Source

Another study found that during the past 25 years, top-quartile PE funds generated annual returns of nearly 39 percent, compared to 12.1 percent for the S&P 500 and 12.3 percent for the NASDAQ. By 2008, the total net profits distributed to investors worldwide by private equity funds raised through 2007 were $1.12 trillion. See Insight - Why Should You Invest in Private Equity?