Rebounding confidence drives mid-market Central Europe Private Equity confidence survey Private Equity May 2016 The confidence to put money to work shows an appetite and willingness to build CE businesses and create returns for investors. This publication contains general information only. The publication has been prepared on the basis of information and forecasts in the public domain. None of the information on which the publication is based has been independently verified by Deloitte and none of Deloitte Touche Tohmatsu Limited, any of its member firms or any of the foregoing’s affiliates (collectively the “Deloitte Network”) take any responsibility for the content thereof. No entity in the Deloitte Network nor any of their affiliates nor their respective members, directors, employees and agents accept any liability with respect to the accuracy or completeness, or in relation to the use by any recipient, of the information, projections or opinions contained in the publication and no entity in Deloitte Network shall be responsible for any loss whatsoever sustained by any person who relies thereon. 2 Introduction Our 27th survey reveals renewed confidence after a dip The EBRD released its latest Transition Report last last autumn. The Index rose by a third to reach 124, autumn1, and reminded us that despite its ability to putting sentiment of Central European (CE) private select high-potential businesses and then help to equity (PE) deal-doers at roughly the level seen a year accelerate their growth, the asset class remains ago. underrepresented in transition countries. In fact the report states that just 1% of global private equity is It is also encouraging to see that confidence is channelled into EBRD countries. Admittedly some of improving and strong across many of our metrics: there CE’s strongest performers have graduated out of are expectations of improving economic conditions; EBRD’s remit (the Czech Republic, for example, hasn’t liquidity is expected to remain the same or improve received EBRD funds since 2008), however the report and an increasing number of deal-doers are expecting paints a stark picture of how much farther the region to focus mostly on putting money to work in the has to go as regards private equity. coming months. Perhaps on the back of all this, nearly a third expect market activity to pick up. These We look forward to continuing to work with CE deal numbers are all up on last autumn’s survey. doers as they keep driving the asset class forward in the region. There are a number of reasons for this. Many of the region’s deal-doers raised funds two or three years ago, meaning they still have capital left to deploy and time to deploy it, while pressure to exit is less urgent than when funds are about to launch. In fact nearly three quarters of respondents (73%) intend to focus on new investments in the coming months, a five-year high. This may also be a reflection of the increased availability of debt (see page XX) and the increased optimism surrounding the economy. Mark Jung Garret Byrne Partner Partner The exits that are being recorded – 23 in the last six Private Equity Leader months according to Deloitte research –are mostly Central Europe going to trade buyers, excellent vindication of the success and international interest a CE-based business can achieve under the stewardship of private equity. In other, more mature markets, sales to other private equity houses are more common, with trade buyers more elusive. Two-thirds of the exits we recorded were via this exit route, which should go a way to convincing international investors to take another look at CE private equity. This year’s results are interesting and we think An effective digital strategy is a key element of this. underline the importance of continued focus on driving There is a growing awareness of the importance of the acquired businesses forward. Responses suggest to us digitalization, changing not only the B2C but also B2B that valuations will remain strong (or perhaps see some market. With digital maturity and effective digital upward pressure) – as respondents are more positive strategy becoming one of the vital elements of a about the economy, and will focus on new successful business, we would urge more investors to investments. An improvement in efficiency of financial develop a rigorous approach to the digital world, also investments is expected – against a background of as they assess a potential acquisition. This may prove stable debt availability however. to be a key lever to defend existing sales and drive upsides. This means that improved returns will need to be generated by strong growth in margins – and this is recognized. Whilst consolidation and operational excellence are important levers, organic growth is seen as the key value driver. This means that investors will need to focus on driving improvements in sales and pricing strategy, as well as developing new products, and perhaps diversifying or entering new markets. A current engagement we are involved with is very much along these lines – we support an investor to decide Daniel Cappelletti pricing and distribution strategy for a medtech Partner, Consulting product, based on detailed customer insight. 4 Overview Key findings • Confidence has regained much momentum after a blip last year, with the index back at last spring’s level. This may be a reflection of improving economic expectations. • There was an eight-fold increase in respondents expecting an improvement in the economy. Indeed Central Europe is Europe’s strongest region for GDP growth, with 3.6% recorded for Q4 2015 . • Debt markets are considered stable: more than two Centr thirds of respondents (70%) expect no change in the al Euro already good availability of debt finance for deals. 180 There was also a near halving of the proportion of pe PE Confidence Index* those expecting liquidity to decrease, from 30% six 160 months ago to just 16% in the latest survey. 156 140 148 154 120 155 100 139 149 159 153 100 80 60 153 40 118 140 102 20 138 117 0 Central Europe PE Confidence Index 144 Mar. 2003 127 Confidence is improving for private equity in CE, with Sep. 2003 78 101 Mar. 2004 the index climbing by more than a third to 124 points Sep. 2004 101 48 130 Mar. 2005 over the last six months. The uptick means it has *The PE Confidence Index is Sebasedp. 200 5upon answers received from PE professionals focused on Central Europe. It is composed from answersMa rto. 20 the first06 seven questions of the survey. For each period 114 124 regained most of the confidence lost in the two years 70 the average of positive answer ratios overO ct.the sum 2006 of positive and negative answers is computed. following a drop in April 2014 after an 18-month long Apr. 2007 71 This average is compared to the base period, whichO ct.in 20our07 case is spring 2003. continuous ascent. Apr. 2008 Oct. 2008 92 Apr. 2009 This increased confidence is manifesting across various Oct. 2009 Apr. 2010 metrics. The economy is considered to be stable or Oct. 2010 Apr. 2011 improving, with an eight-fold increase in optimism to Oct. 2011 nearly a quarter of respondents (24%) expecting an Apr. 2012 Oct. 2012 improvement in conditions. Liquidity is also expected Apr. 2013 This is perhaps the strongest indication of increasing Oct. 2013 to remain consistent or improve, and nearly three Apr. 2014 confidence: in uncertain times, portfolio management Oct. 2014 quarters of deal-doers (73%) expecting to focus on becomes the biggest priority, as reflected in our survey Apr. 2015 deploying capital over the coming months. Oct. 2015 over the last 13 years. The confidence to put money to Apr. 2016 work shows an appetite and willingness to build CE businesses and create returns for investors. There may be more deals, but there remains a belief in the discipline of retaining CE’s mid-market focus: Nearly a third of respondents (30%) expect market activity to pick up, up from 17% last autumn – but it will be about increasing the number of deals instead of cheque sizes; 81% believe average ticket sizes will remain the same. Survey results 6 Survey results Economic climate Over the next 6 months I expect the overall economic climate to:* 4% 2% 100 7% 9% 10% 9% 8% 10% 18% 21% 16% 28% 33% 27% 31% 75 53% 51% 57% 59% 55% 74% 61% 62% 47% 66% 68% 60% 64% 93% 50 74% 49% 69% 67% 64% 43% 61% 25 47% 43% 39% 41% 26% 32% 29% 43% 34% 23% 30% 24% 18% 5% 3% 7% 6% 10% 10% 0 Oct. 2006Apr. 2007Oct. 2007Apr. 2008Oct. 2008Apr. 2009Oct. 2009Apr. 2010Oct. 2010Apr. 2011Oct. 2011Apr. 2012Oct. 2012Apr. 2013Oct. 2013Apr. 2014Oct. 2014Apr. 2015Sep. 2015Apr. 2016 Deteriorate Remain the same Improve Nearly a quarter of respondents (24%) expect the The ongoing tragedy of the migrant crisis casts a large economic backdrop to improve in the coming months, shadow on the whole of Europe, including CE. A recently up eight-fold from the last survey, when just 3% were concluded deal with Turkey to create a sort of ‘one in, optimistic for the future. Indeed CE is Europe’s strongest one out’ policy may or may not improve the situation in region for GDP growth, with 3.6% recorded for Q4 2015. the short-term. In Poland, the region’s largest economy, unemployment was down from 11.5% to 10% in the year to March These factors among others put forecasts for this year’s 2016 . Households throughout the region are seeing their GPD growth above 3% – healthy but a bit slower than disposable incomes increase owing to low inflation and last year.