“In our business, the term ‘bargain’ merely scratches the surface.”

Frankfurt-based private equity firm Novum Capital remains on track for success. Here, Novum Capital partner Felix Homann reflects on the private equity market in times of COVID-19, Novum Capital’s strategy, attractive shortcomings, and (apparent) bargains.

This interview first appeared in an abbreviated form on FYB Financial Yearbook on 23 March 2021.

Felix, the development of the private equity market in Germany remained stable throughout 2020. Were you expecting this?
Felix Homann: Nobody ever knows what is going to happen tomorrow. Of course, this also holds for monumental events such as the COVID-19 crisis. One thing that has transpired, however, is that the future has become even less predictable. It has become harder for private equity investors to make risk-reward forecasts and, in individual cases, this could well mean that investors and potential sellers may not be able to find common ground. That said, the coronavirus pandemic has not changed how Novum Capital operates.

How do you expect the private equity market to develop in 2021?
The typical buyers of companies – whether private equity funds or corporations – continue to have a lot of money. So I expect that there will still be many transactions in Germany. Deal flow may even increase, as more companies need fresh equity as a result of the economic crisis, and corporations are accelerating the sale of non-core business segments.

Which is where you come in with your Novum Capital funds.
That depends. We mustn’t forget that the future of many potential acquisition candidates, especially those in cyclical sectors, has become much more uncertain due to the COVID-19 crisis – yet acquisition prices have often stayed relatively high. As I said before, we carefully examine which of the companies offered to us we actually want to buy. Nonetheless, we can be and want to be an advantageous shareholder in medium-sized companies. Our mission is to invest – even in difficult times.

Considering private equity firms have so much money: Why are high transaction prices a problem?
The higher the price of a company, the more ambitious the business plans need to be for the company to meet the expected returns – on paper, at first – of the investors.

So ambitious business plans are bad?
Not in general. But when ambitions get out of hand, this puts enormous pressure on the company’s management and its entire workforce. And when business plans fail because they were overly ambitious, all parties involved end up paying the price: the employees, the lenders, the fund managers and their backers, for example, pension funds and insurance companies.

Is this because taking dangerously high risk for the sake of an excessively high acquisition price ultimately benefits no one?
It does, though – the sellers. But this is not just about them.

“A seemingly low entry multiple can quickly turn out to be an expensive mistake.”

 

Let’s talk more about the buyer side: Does Novum Capital prefer to go bargain hunting?
How would you define a “bargain”? There is no way to tell if you bought a company at a “bargain price” until years later when you sell it on. Focussing on an EBITDA or EBIT multiple during price negotiations, as is common practice in M&A transactions, merely demonstrates a somewhat helpless desire for objectivity and rationality. A seemingly low entry multiple can quickly turn out to be an expensive mistake. We buy at prices that we consider reasonable. A “bargain” is an alien concept to us.

Yet it has been said that Novum Capital has made some good bargains.
We do not see it that way – even though, in retrospect, it may look that way to outsiders when we sell one of our portfolio companies. Unfortunately, such assessments rarely take into account the entrepreneurial risks we took together with the managers of our portfolio companies, the stress we went through due to change processes, or even how much capital we invested in the company’s technology and business improvements. In our business, the term “bargain” merely scratches the surface.

For the Novum Capital portfolio, you are looking for companies that generate at least five million euros in EBITDA per year. That isn’t a lot. Do you lack the courage to take on larger companies?
This isn’t about “courage”, it’s about strategy. We are a mid-cap investor.

It would be a sensation, not to mention good for your reputation, if you were to acquire a top 3 large-cap company.
One of our portfolio companies, MMC Studios Cologne, is a state-of-the-art film and TV studio operator, and one of the top 3 companies of its kind in Europe. And, until recently, we owned a 100% stake in the Schluckwerder Group, Germany’s largest marzipan manufacturer. We are building our reputation with promising mid-cap deals. This is where we see more potential.

Where exactly do you see this extra potential?
First of all, private equity investors who buy one of the top large-cap companies pay very high prices. This means that, among other things, they are also acquiring a highly qualified management team that, supported by strategy committees and established external strategy consultants, is already following a highly optimised business plan. Generally speaking, they are “ready-made”, comparatively “heavy tankers”, and it requires a lot of time and effort to get them to change course. Mid-caps, however, tend not to have the top-class managers, the large consulting budgets, the sophisticated strategies, and the operational efficiency. If they did, most of the companies that are looking for a buyer simply wouldn’t be up for sale. In the aforementioned shortcomings, we can find the potential we are interested in for shaping the company and adding value to it.

“We are happy with the Schluckwerder transaction – and so is Valeo Foods. Now it is our Irish business partners’ turn to put on some ‘marzipan weight’.”

 

In January 2021, you sold the Schluckwerder Group to Dublin-based food business Valeo Foods. Are you happy with the deal?
Yes, otherwise we would not have gone through with it. By acquiring Schluckwerder, we were able to execute a succession plan for the long-time owner, which secured the future of the company at its production sites in Adendorf and Lübeck. The new management team we appointed managed to professionalise the structures and remotivate the employees. In 2020, a year defined by the COVID-19 crisis, Schluckwerder generated more than 100 million euros in annual turnover for the first time in its 175-year history. With this, we had fulfilled our task. We are happy with the transaction – and so is Valeo Foods. Now it is our Irish business partners’ turn to put on some ‘marzipan weight’. (laughs)

Aside from entertainment and sweets, what other attractions does the mid-cap segment hold for you?
Waste incineration slag, for one. Until mid-February 2021, our portfolio included one of the leading processors of such slags. Our sale of C.C. Umwelt was also to a strategic investor – the Blue Phoenix Group, which is owned by private equity investor Waterland. We aren’t focused on specific industries. There are opportunities in many industries that are attractive to us.

Novum Capital has become known as an investor for difficult cases. How do you define “difficult cases”?
Carve-outs of business units of major corporations in crisis phases, for example, or medium-sized companies undergoing a structural and earnings crisis when the respective company’s problems are clearly identifiable, and we consider them solvable. We also have the courage to take on very complex, opaque, and virtually leaderless companies. However, growth companies are still our favourites.

What can you offer such companies – apart from equity capital?
Novum Capital is experienced in solving a wide variety of company problems and in helping to shape success strategies. And we are also in a position to offer expertise and capital. Especially for smaller companies, we can contribute a great deal quickly to help preserve these companies, encourage their expansion, and ultimately increase their value in the long term.

What are the precise measures you take to increase the value of your portfolio companies?
We discuss such precise measures with the senior management of our portfolio companies only

And does senior management always like your ideas?
Sometimes yes, sometimes no. But in the end, we always manage to get on the same page and be successful. Success can only be achieved by working together.

“Digitalisation is not only a risk for many mid-caps, but also a real opportunity. And an opportunity we want to take advantage of.”

 

Many companies have seen their success jeopardised by the COVID-19 crisis. Do you see any other risks of overriding importance at the moment?
Digitalisation is of course a major topic. We used to routinely ask about the “Chinese risk”, i.e. whether Chinese competitors could successfully attack a German mid-cap’s business model. Today, our focus has shifted mainly to digital disruptors. Although it must be said that digitalisation is not only a risk for many mid-caps but also a real opportunity. And an opportunity we want to take advantage of.

Why should medium-sized companies choose Novum Capital as an investor?
As I said earlier: We can offer capital, expertise, and experience. And we love product innovations, internationalisation strategies, cost efficiency, and acquisitions. These are topics that ambitious mid-cap managers – who, by the way, are welcome to acquire a share in the newly-bought company – should also be passionate about. The Novum Capital team is a passionate, success-hungry, and like-minded partner for its portfolio companies. We have proven this many times over. And working with us can be really fun.

You have to say that.
Ah, but I know many others who would agree.

How many deals are you aiming for in 2021?
As I mentioned before, we have already accomplished two successful divestments this year: Krefeld-based slag recycling specialist C.C. Umwelt and marzipan manufacturer Schluckwerder. If we can add two acquisitions to that, we will be on target for 2021. Of course, we would like to exceed our target. Our new fund means that we have 150 million euros in equity, to be used for four to six transactions.

If you were granted one wish for 2021 – what would it be?
I would love to be able to meet up in person and celebrate with everyone involved after closing a deal – just like we used to.

Thank you for your time!

The interview was conducted by Mario Müller-Dofel.