Palamon Capital Partners/ TeamSystem S-p-A. We want to make money by investing in change.
—Louis Elson, Managing Partner, Palamon Capital Partners In Febr Februa uary ry 2000 2000,, Loui Louis s Elso Elson n look looked ed over over the the Lond London on skyl skylin ine e and and rel rele! e!te ted d on the the international private e"uity industry and the investment pro!esses that #ould be ne!essary or su!!ess in this in!reasingly !ompetitive ield$ Elson, a managing partner o the %$&$'based private e"uity irm Palamon Capital Partners, #as spe!ii!ally !onsidering an investment in (eam)ystem (eam)ystem )$p$*$, an Italian sot#are !ompany$ Palamon #as interested inter ested in (eam)ystem (eam)ystem or the gro#th gro#th opportu opportunity nity that it represe represente nted d in a ast'! ast'!hang hanging ing market$ market$ Palamon Palamon had an opportunity to pur!hase a + per!ent stake in (eam)ystem or -euro. E%/2+$ million$ In prepa prepari ring ng a re!o re!omm mmend endat atio ion n to his his !oll !ollea eagu gues es at Palamo Palamon, n, Elso Elson n plan planne ned d to asse assess ss (eam)y (eam)ystem1 stem1s s strategy strategy,, value value the irm, identiy identiy important risks, risks, evaluate proposed terms o the investment, and !onsider alternative eit strategies$ International Private E"uity Industry (he international private e"uity industry #as segmented into three se!tors$ 3enture !apital unds made high'risk early'stage investments in startup !ompanies$ 4eneralist private e"uity unds provided epansionary unding or transitional unding that allo#ed small !ompanies to gro# and eventually go publi!$ Leveraged buyout unds inan!ed the a!"uisitions -oten by manageme management. nt. o preeis preeisting ting !ompanies !ompanies that had the !apa!ity !apa!ity to take on debt and make radi!al improvements in operations$ Private Private e"uity unds raised raised !apital !apital primarily primarily rom individual individual investors, investors, pension pension unds, unds, and endo#ments that #ere interested in more attra!tive risk5return investment propositions than the publi! !apital markets oered$ Funds eisted all over the #orld,
but, not surprisingly, :orth *meri!a *meri!a had the largest number o unds and largest dol lar value o !api !apita tall inve invest sted ed as o $$ Euro Europe pe and and *sia sia had had the the net net larg larges estt priv privat ate e e"ui e"uity ty industries industries$$ Exhib Exhibit it 1 presents the number and dollar values o private e"uity unds by global geographi! region$ Most private e"uity markets sa# rapid gro#th in the 0s$ In Europe, the amount o ne# ne# !api !apita tall raise raised d gre# gre# rom rom E%/; E%/;$; $; bill billio ion n in ; ; to E%/2 E%/2+$ +$; ; bill billion ion in $$ Correspondi Correspondingly ngly,, the amount amount o !apital invested by the unds more than "uadrupled "uadrupled rom E%/+$+ billion to E%/2+$ billion over the same period$ Exhibit 2 summari
= -E%/>=0 0 millio million n und und based based in )#eden )#eden.$ .$ Large Large invest investmen mentt banks banks su!h su!h as 7resdn 7resdner er,, 7euts!he 6ank, and 6an!a de /oma also had notable private e"uity presen!es$
Louis Elson and Palamon Capital Partners
Louis Elson began #orking in private e"uity in 0, #hen he ?oined E$M$ @arburg, Pin!us A Co$ )oon ater ?oining the irm, he began o!using on European transa!tions and, in 2, de!ided to relo!ate permanently to Europe$ Elson be!ame a partner o @arburg, Pin!us in + + and and #as #as an inte integr gral al part part o a team team that that buil builtt a %)B %)B$ $ bill billio ion n port porto olilio o o e"ui e"uity ty investments or the irm$ (he portolio !ontained more than ;0 investments in seven dierent European !ountries$ In late D, Elson and another o his partners, Mi!hael oman, sa# a uni"ue #indo# o opportunity in the European private e"uity industry$ (hey believed that the European e!onomi! lands!ape #as !hanging in a #ay that beneited smaller, middle' market market !ompanie !ompanies$ s$ (hereor (hereore, e, Elson Elson and oman oman re!ruited re!ruited t#o additional additional partners partners and
again i #e !an beat this target, ad?usting o !ourse or risk$ @e look to pi!k up good businesses at attra!tive pri!es, and then add value through a!tive involvement #ith them$
Like other generalist unds, Palamon1s investment strategy #as to make bridge investments in !ompanies that #anted to move rom small, private o#nership to the publi! !apital markets$ %nlike many private e"uity unds, ho#ever, Palamon did not restri!t itsel to one spe!ii! European !ountry, nor did it limit its s!ope to one industry$ Instead, Palamon o!used more broadly on small to midsi
Palamon1s investment pro!ess began #ith the development o an investment thesis that #ould typi!ally involve a market undergoing signii!ant !hange, #hi!h might be driven by deregulation, trade liberali
(eam)ystem )$p$*$ Palamon1s theme'based sear!h generated the opportunity to invest in (eam)ystem )$p$*$ In early , even beore Palamon1s und had been !losed, Elson had !on!luded that the payroll servi!ing industry in Italy !ould provide a good investment opportunity be!ause o the industry1s etreme ragmentation and !onstantly !hanging regulations$ istory had sho#n that governments in Italy ad?usted their poli!ies as oten as our times a year$ For Palamon, the spa!e represented a ripe opportunity to invest in a !ompany that #ould !apitali in Pesaro, Italy$ )in!e its ounding, the !ompany had gro#n to be!ome one o Italy1s leading providers o a!!ounting, ta, and payroll management sot#are or small'to'medium'si
operated #as highly ragmented$ More than 0 sot#are providers vied or the business o 200,000 )MEs #ith the largest having a + per!ent share o the marketJ (eam)ystem ranked number t#o #ith its ; per!ent share$ *ll o the signii!ant players in the industry #ere amily'o#ned !ompanies that did not have a!!ess to international !apital markets$ Exhibit % sho#s D revenues or the nine largest players$ *nalysts predi!ted that t#o things #ould !hara!teri
*ter revie#ing (eam)ystem1s past perorman!e and the state o the industry, Elson returned his attention to the spe!ii!s o the (eam)ystem investment$ (he most re!ent proposal had oered E%/2+$ million or + per!ent o the !ommon -or ordinary. shares in a multipart stru!ture that also in!luded a re!apitali
•
Palamon #ould invest I(L+0$2+ billion -E%/2+$ million. in the ordinary shares -i$e$, !ommon e"uity. o (eam)ystem )$p$*$ (hose shares #ould be pur!hased rom eisting shareholders o (eam)ystem$ 4iovanni /anno!hi #ould maintain a 20 per!ent shareholding, #hile non!ore employees #ould be diluted rom holdings ranging rom per!ent to D per!ent to ?ust per!ent ea!h ater !ompletion$ More than hal o (eam)ystem1s I(L2D$+ billion o !ash #as to be distributed to
period$ 6ut Palamon #ould have the ability to deliver 00 per!ent o the shares o the !ompany to a trade buyer should that be the appropriate eit$ Furthermore, more than ;0 per!ent o the !ash to be paid to the departing shareholders #ould be held in es!ro# or a period o at least t#o years, under Palamon1s !ontrol$ )aluation
(o properly evaluate the deal, Elson had to develop a vie# about the value o (eam')ystem$ e a!ed some !hallenges in that task, ho#ever$ First, (eam)ystem had no strategi! plan or uture ore!ast o proitability$ Elson only had our years o histori!al inormation$ I Elson #ere to do a proper valuation, he #ould need to estimate the uture !ash lo#s that (eam)ystem #ould generate given market trends and the value that Palamon !ould add$ is best guess #as that (eam)ystem !ould gro# revenues at + per!ent per year or the net e# years, a pa!e above the epe!ted market gro#th rate o per!ent, ollo#ed by a = per!ent gro#th rate in perpetuity$ e also thought that Palamon1s proessionals !ould help /ano!!hi improve operating margins slightly$ Lastly, Elson believed that a ; per!ent dis!ount rate #ould appropriately !apture the risk o the !ash lo#s$ (hat rate rele!ted three sot#are !ompanies1 trading on the Milan sto!k e!hange, #hose betas averaged $;; and unlevered betas averaged $00$ (he se!ond !hallenge Elson a!ed #as the la!k o !omparable valuations in the Italian market$ 6e!ause most !ompetitors #ere amily'o#ned, there #as very little market transparen!y$ (he nearest mat!hes he !ould ind #ere other European and %$)$ enterprise resour!e planning -E/P.2 !ompanies and a!!ounting sot#are !ompanies$ (he inan!ial proiles o those !omparable irms are !ontained in Exhibits 1* and 11. )ee also e!hange rates and !apital market !onditions in Exhibits 12 and 1+. Looking through the data, Elson noti!ed the high gro#th epe!tations -greater than 20 per!ent. or the sot#are irms and !orrespondingly high valuation multiples$
and long'term real e!onomi! gro#th in Europe o per!ent$ Enterprise resour!e planning -E/P. systems #ere !ommer!ial sot#are pa!kages that promised the seamless integration o all the inormation lo#ing through a !ompanyG inan!ial, a!!ounting, supply !hain, !ustomer, and human resour!es inormation$
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Team!ystem was facing an inspection by the $talian ta% authorities. (he inspe!tion posed a inan!ial risk and thereore !ould serve as a
signii!ant distra!tion or management$ Further, be!ause it #as open'ended, the inspe!tion might delay the !ompany1s ability to go publi!$ Elson had "uantiied the risk, ho#ever, through sensitivity and s!enario analysis, and believed that the epe!ted monetary impa!t o the inspe!tion #as lo#$ The company might not be able to keep up with technological change. @hile the !ompany had begun to adapt to te!hnologi!al !hanges su!h as ne# programming languages, it still had some produ!ts on older platorms that #ould re"uire signii!ant reprogramming$ In addition, the Internet posed an immediate threat i (eam)ystem1s !ompetitors adapted to it more "ui!kly than (eam)ystem did$ Finally, Elson #anted to make sure that he !ould !apture the value that (eam)ystem might be able to !reate in the net e# years$ Eit options #ere, thereore, also an important !onsideration$
Con!lusion
Elson looked at all the inormation that !overed his desk and pondered the re!ommendation he should make to his partners$ o# mu!h #as a + per!ent stake really #orth @hat might eplain the valuation results @hat nonpri!e !onsiderations should he make part o the deal o# might Palamon easibly !apture the value rom the investment @ere the risks serious enough to !ompromise the value o the investment EI0IT 1 )i
4umber o$ unds
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)our!e o dataG (homson )e!urities 7ata53enture pert$
EI0IT + )!reening Criteria and Investment Pro!ess Inestment Pro!ess
Palamon utili
7etermination o Investment Fo!us—Identiy se!tors undergoing signii!ant !hanges, develop industry kno#ledge, and take a !ontrarian stan!e #hen appropriate$ Pro'*!tive 7eal )our!ing—Proa!tively pursue investment opportunities #ithin identiied se!tors$ /igorous 7ue 7iligen!e—Ee!ute !omprehensive yet o!used !ompany due diligen!eJ !on!entrate on deal breakers early on$ )ophisti!ated 7eal )tru!turing—6ase stru!turing on a sound kno#ledge o lo!al pra!ti!es #ithout relying ne!essarily on inee!tive !ustomsJ align ob?e!tives #ith the entrepreneurJ avoid e!ess leverage$ 3alue'*dded )upport—Provide strategi! dire!tion to portolio !ompaniesJ make international net#ork o advisors and epertise available to management teamsJ !ommit to longer time hori
Inestment S!reenin3 Criteria
(he partners o Paiamon are espe!ially rigorous in their investment sele!tion !riteria, identiying those !hara!teristi!s that #ill oster high gro#th !ombined #ith manageable risk$ (he ollo#ing key elements are sought in ea!h investment madeG K K K K K
)uperior management #ith uni"ue !apabilities and eperien!e Leadership in !ore markets #hi!h are either epanding robustly or are eperien!ing dislo!ation due to te!hnologi!al, regulatory, or !ompetitive !hanges igh potential or operating leverage Hpportunity to a!!ess alternative markets *!!ess to undervalued assets
)our!eG httpG55###$palamon$!om5 -a!!essed 7e!ember 200+.$
EI0IT 1+ N Capital'Market Conditions, February 2000 Instrument
E6,I09,1 (*-day %-month 1-year
8ield
+."1: +.&': ".11:
;oernment 0onds
-euro'denominated. Italy< April 2**" Italy< =uly 2**& Italy< >ar!h 2*11 Euro area<2 # years Euro area< & years Euro area< 1* years
%.**: #.'&:
$2+O #.1%:
+$;+O #.%1 :
E?uity >aret Index Pri!e/Earnin3s >ultiple
Milan MI60 Inde F()E 00 Inde -London. 7* Inde -Frankurt.
>$D> 2D$>+ +>$;>
)our!es o dataG &'( )onthly (ulletin, European Central 6ank -Mar!h 2000.J 6loomberg LP$ E%/I6H/ stands or euro interbank oered rates$ 2 Euro area bond yields are harmoni
