Overview For the second
consecutive year, we are reporting a substantial fall in the
value of the portfolio and shareholders’ funds.
The market has undoubtedly been difficult and, particularly
for early stage technology companies, the operating environment
has been the toughest for a very long time.
Our Operating review considers the performance of our product
businesses – buy-outs, growth capital and early stage technology
– in more detail. In summary, our mid-market buy-out business
performed well and achieved a positive return. Our smaller buy-out
business and our growth capital business both performed satisfactorily
but produced negative returns, partly because of reduced valuations
arising from falling stock markets. Our early stage technology
business saw a substantial fall in the value of its portfolio
and was the principal factor contributing to the Group’s negative
total return.
The return from our mid-market buy-out business of 5% and the
negative return of 12% in our growth capital business compare
strongly with the movements for the All-Share Index of minus
29.8% and the SmallCap Index of minus 33.4%. Our early stage
technology business saw a decline of 51%, which is very similar
to the fall in the techMARK Index of 50.0%.
At the Group level, we generated about £1 billion of realisation
proceeds, at good prices, and this has enabled us to retain
our balance sheet strength.
We have maintained our long term strategy but have taken significant
actions to improve the quality of our processes.
Market conditions The weakness in
stock markets in the year clearly recognises the slowing down
of world economies and the continuing pressure on corporate
profits. This has had a major impact on the private equity industry
which has seen falling returns and a difficult fundraising climate.
For calendar year 2002, total investment in private equity and
venture capital in the US and Europe is estimated to have increased
by approximately 10% to $91 billion. However, within this total,
buy-out investment was up 69% to $61 billion, whereas early
stage investment was down 53% to $4.1 billion in the US and
by 66% to $2.5 billion in Europe.
We have continued to invest in line with our strategy of building
a balanced portfolio.
In our main European markets, we invested in about 10% of completed
transactions, thereby maintaining our market leading position.
Liquidity for the private equity and venture market has generally
been difficult with significantly lower levels of mergers and
acquisitions activity and virtually no IPOs. In this environment,
it is very encouraging that we saw such a strong interest in
many of our portfolio companies.
Strategy and competitive advantage
Our strategy is to:
- develop the business internationally;
- build a balanced investment business;
- use the network as our key competitive advantage; and
- invest primarily in growth companies.
Our network enables us to use our local presence and established
relationships to identify opportunities in which to invest.
This, combined with our scale, gives us the ability to use specialist
resources for winning deals, carrying out extensive referencing
and adding value to our portfolio companies.
A key element of our strategy is maintaining a balanced business
with about 40% of our assets in buy-outs, 40% in growth capital
and 20% of our portfolio in early stage technology based companies.
The proportion of our portfolio in technology companies increased
during the bubble in 2000 and 2001, which has damaged our short
term performance, but we have now broadly restored the shape
of the portfolio in line with our long term strategy.
We seek to invest in companies with good growth potential rather
than relying on financial engineering as the driver of value
growth. Additionally, we look for growth markets, a strong and
well-balanced management team and a business strategy that will
deliver value to all shareholders.
Strategy and management action We
have adjusted our resources and organisation to meet the market
challenges. The process of reorganising the business on to a
product as well as geographical basis is now largely complete.
We have also reduced staff numbers to align resources with market
conditions.
Our business is led on a product and sector basis. Jonathan
Russell heads up our buy-out business and Rod Perry our technology
business. Following the retirements of Peter Williams and Richard
Summers, who had respectively run our UK and continental European
networks, we were particularly pleased to recruit Chris Rowlands
back to 3i. Chris is, in addition to responsibilities for the
UK regional network and the northern European countries, driving
forward our growth capital business across Europe.
The drivers of change in our product approach have been specialist
teams, focused marketing and using our resources on a pan European
basis. This model, which we adopted in our buy-out business
two years ago, is working well and delivering strong investment
opportunities.
Key elements of this approach include a refined investment process
and a new performance management system for our staff.
We closed our office in Tokyo and subsequently our office in
Dublin, but made no other changes to our country network. In
Japan, we had hoped to develop a mid-market buy-out business,
but after three years it became clear that this market was not
developing at a rate to support a local presence. Our decision
to close our Dublin office reflected the slower than expected
development of the Irish private equity market.
In Germany, market conditions have been very tough, particularly
for early stage companies, and we have carried through a major
restructuring resulting in the closure of our offices in Hamburg
and Berlin.
Outlook In the short term, the outlook
for corporate profits growth remains weak. Against this background,
we are actively managing the portfolio and focusing investment
on those companies that can thrive in this more difficult environment.
Market weaknesses and imperfections also create great opportunities
and we are mindful that the recession years of 1992-93 were
excellent vintages in terms of investment returns.
Although cautious about the short term outlook, I have every
confidence in 3i’s business. |
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“Our priorities have been to pursue our core strategy, rebalance
our investment activity, improve the quality of our processes
and investment portfolio, and increase specialisation.”
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