Scott McCulloch is editor of Families in Business
Introducing private equity into a business can make a world of difference in terms of growth propects. 3i's Michael Queen tells Scott McCulloch how, in addition to capital, he can offer well-managed businesses strategic input and access to a global network
Michael Queen admires companies with quality management, good market position and a vision for growth. Spotting these aspects is part of his remit as head of growth capital for 3i, the listed private equity company that has been around for some 60 years. Growth, of course, is not without obstacles. Without the requisite capital and strategic advice along the way, a planned acquisition or a long-standing desire to tap a hot new market may seem a formidable undertaking. But 3i's private equity products, which Queen defines as external capital for private businesses, could be just the tonic. First comes a conversation, a dialogue as Queen calls it, with his prospective clients to determine whether engaging with a private equity concern is right for them. "I spend a lot of time explaining to them what we're not."
So what is 3i? 3i is complementary, not predatory, says Queen. Because private equity investors are shareholders, their interests are aligned with the management team of the company in which they invest. Underpinning every investment is 3i's intention to add value to the companies it works with. Some businesses expect 3i to challenge them and actively help drive their growth agenda, says Queen. Some don't. What his Growth Capital business does not do is interfere in the day-to-day operations of its business partner. Nor will it take a majority stake. "We sit alongside the management of these businesses, but we're not going to get engaged in the actual management."
Instead, 3i will contribute to strategic direction. Think of it as management consultants who pay you to achieve your goals. That could mean advice on an acquisition (which the group does daily) or a sensible foray into a fertile foreign market. "They may need new capital with which to do that and so they will approach us," says Queen. "We've seen many businesses go through different phases of development in their lifecycle and we can bring a lot of that experience to family and private businesses."
What about debt? Queen has a knack for turning complex business concepts into simple parables and his understanding of the 'debt versus equity' debate is equally lucid. He agrees that debt enables businesses to expand without diluting their equity stake. But loans must be paid back and that hurts cash flow. "Debt is very different [from private equity] but it could be absolutely appropriate," he says. "If the business is relatively unleveraged, then gearing up the business could be an appropriate way of funding growth or funding out existing shareholders."
The downside of debt is that when things get tough for a business, banks will look to a security on which the money has been lent. If payments are missed it could mean foreclosure on the debt, putting the company into administration. "Equity allows you to sleep at night in the sense that it is strengthening your balance sheet, whereas debt is leveraging your balance sheet and risk up," says Queen.
The attraction of equity is that it enables a business to use all cash flows to grow. The 3i model aligns investors to shareholders and, crucially, gives clients access to the investor's specialist skills and its networks. Currently, 3i has an interest in over 50 family businesses throughout western Europe. Furthermore, the group has operations across the globe. "We want families to think what they would do if they had more capital to invest in their business," says Queen. "It really is as simple as that."
As a backer, 3i will typically take a minority shareholding in return for providing committed risk investment for the company. Typically 3i would be involved with the company for up to seven years and would take a stake of up to 50%, but usually in the range of 25-40%. "We take minority stakes but we don't give our money away," he says. "We negotiate what we think is a fair stake at a fair price."
As with all investment decisions, there are factors 3i will consider before backing a business. "Fundamentally, we are backing people. So the quality of the management team we look at is very important." 3i will then determine whether its own work ethic dovetails with that of the partner. The business's position in the marketplace is another important factor. "Do they have a competitive advantage? Is that competitive advantage sustainable in the medium term?" he says.
Whether a company is investing in new products or indeed new markets are additional factors 3i looks for to assess a company's growth potential. But there is no single approach that suits all, says Queen. "If I look at some of the recent deals that we've done, I would say that we have backed businesses that are in distress and need financing to turn themselves around as well as businesses that have huge growth potential and just need capital to realise it."
3i did just this in 1996 with Avent, the baby care products company, when it invested h7.5 million of growth capital in exchange for a minority stake. "3i's backing enabled us to reduce our debt and grow the business aggressively," says managing director Edward Atkin. The relationship with the family business began in 1989 when Atkin was buying his brother out of the business. At the time he did so under his own steam but was nonetheless impressed by 3i's professionalism. 3i sold its stake in Avent last year in a h445 million deal. 3i was a partner for more than ten years, helping the company develop into the global player it is today, says Atkin.
In 2004, 3i took a 25% stake in Senoble, a family-controlled dairy desserts supplier with a turnover of h640 million. Senoble was attractive to 3i because it had demonstrated 10% growth per annum over a five-year period. Moreover, this growth was organic and well above the industry average. 3i's appointment of a non-executive director with expert dairy industry knowledge helped increase sales to h704 million that same year. In 2005, Senoble went on to make an important strategic acquisition in Slovakia. "Throughout the partnership, 3i showed real motivation to invest, an excellent knowledge of the sector and retail brands, plus a Europe-wide network," said chief executive Marc Senoble.
Then there's Depot, the German retailer that benefited from 3i's €10 million in growth capital to add 70 shops and transfer from father to son. In other cases, 3i has worked with companies for as long as 30 years. "Because we are an institution with our own money, we can take a longer timeframe than even most families can," says Queen. As 3i invests off its own balance sheet. It does not have the pressure of trying to invest a fund's money to a funds timetable. "Fundamentally, people and markets are the main issues. If the company has a weak balance sheet, I'm not so worried because we can sort that out. If it has poor people, poor ethics, a poor market position … that is really tough to sort out, so what I am looking for is really strong management with a good core business and great ideas to take forward."