Seminar: introduction to private equity

Contact
Antoine Parmentier:
Antoine.parmentier@aig.com +44(0)7809.510.373

Final presentations
Corporate governance and public debate over private equity; Private equity in emerging markets; FIP, FCPI, defiscalisation; Investments in infrastructure; Private equity post credit crunch; Private equity in retail and consumer goods.
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Content
Introduction; Why allocate assets to PE?; LBO activity in Europe; European fundraising activity; The measure of perfromance; FoF due diligence: selection of PE managers; The worlds biggest private equity firms; The mega-buyout era; Value creation in private equity; The structure of a leverage buyout deal; The pros and cons of being private; The credit crisis: impact and consequences on PE; Case study: Baneasa
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Introduction to Private Equity

Introduction
Asset class representing the companies not publicly traded (vs. public equity traded on stock exchange); Medium to long term investment; Venture capital, growth capital, buyout PE funds are raised from pension funds, insurance companies, large corporate, HNWI, etc; Investors in PE funds are called Limited Partners; PE funds are managed by the General Partners
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 Structure of private equity participations

LP

nsurance co pany

ension fun

ar e corporate

GP

fun

ana er

Portfolio

Co pany

Co pany

Co pany C

Co pany D

Co pany

Co pany D

The fuel of private equity

The debt:
Acquisitions are made through leveraged buyout deals (LBOs);

The investors:
PE funds managers must be disciplined and patient;

The managers:
The success of an investment relies on the implementation of the business plan;

The macro environment:

Acquisition multiple arbitrage can be positive in period of growth;
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A diversified asset class

Private equity includes a large number of strategies: venture, buyout, distressed, secondary Like-minded strategies: mezzanine, cleantech/energy, infrastructure, real assets

Venture capital (1/2)

Earlier stage: venture investors provide funds for start-up and early expansion; Based on innovative business, development of a new product, new patent; Two sectors: technology or life science; Highly skilled professionals and scientists; Scalable investments with a lot of failures and few great successes;
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Venture capital (2/2)

Investment from up to 10m and often prerevenues balance-sheet; Financing in several rounds (round 1, round 2, round 3) with typically clinical test results as threshold for next round; Most of the exits are IPO (NAS AQ, Zurich); Examples: Skype, Google, Apple, Atari, Cisco, Yahoo, YouTube, LinkedIn, Paypal.
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Buyout (1/3)
The most important strategy of PE; Buyout comes after venture and growth capital; Taking control of a company through leveraged buyout (LBO); Management team of the company is investing alongside the PE fund (alignment of interest);
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Buyout (2/3)
evelopment of a business plan over 4 to 6 years in order to add value;

Revenue growth + Margins improvement + deleveraging = added value; Mature companies with leading market position, active management team, strong cash-flow; PE funds provide capital for international expansion, corporate divestures, succession issues
13

Buyout (3/3)
Buyout starts at 5 million enterprise value (EV); At the bottom end: growth/expansion capital.
Large cap
800 million and above

Mid market
100 million to 800 million

Lower market
5 million to 100 million

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istressed / Special situation (1/2)

Investment in debt-securities or equity of a company under financial stress; istressed companies are in default, under Chapter 11 (reorganization) or under Chapter 7 (liquidation=bankruptcy);

Loans are rated BB and below by S&P based on usual ratio (debt/EBIT A, EBIT A interest coverage, etc);
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Distressed / Special situation (2/2)

Distressed debt investors try first to influence the process; Debt holders have access to confidential information; Then, as debt holders, they can take the control of the company;

16

Secondary (1/2)
Purchase of existing (hence secondary) commitments in PE funds or portfolios of direct investments; LP selling their portfolio = secondary deal; Needs in depth valuation and bidding/auction process; Specialized investors: Alpinvest, Coller Capital, Lexington Partners; Booming specialization as most of institutional investors are seek cash.

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Secondary (2/2)

LP

Sec nda y

buye

n rance co any

en on nd

ar e cor ora e

nd

ana er

li

any

any

any

any

any

any

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Mezzanine (1/3)
Debt instrument immediately subordinated to the equity; The most risky debt instrument = highest yield; Returns generated by:
cash interest payment: fixed rate or fluctuate along an index (e.g. EURIBOR, LIBOR); PIK interest: payment is made by increasing the principal borrowed; Ownership: mezzanine financing most of the time include equity ownership.
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Mezzanine (2/3)
Mezzanine suffered before credit crunch as senior debt was easy to access; Since July 2007 and lack of funding, mezzanine is back:
As of 30 September 2008, 70% of PE deals used mezzanine vs. 48% in 2007; Q3 2008 average spread: E+1,042, versus E+979 in Q2 2008;
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E+ ps 1 1 11 6 Ma H gh st Ma 1 1 Ma 2 Jul-02 Nov-02 Ma -03 Jul-03 Nov-03 C Ma -04 Jul-04 Nov-04 Ma -05 Jul-05 Nov-05 Ma -06 Jul-06 Nov-06 Ma -07 Jul-07 Nov-07 Ma -08 Jul-08 h: E+780.5 ps 1 M 6

Ro
2003: E+1,051.5 ps

g 3-mo th v g sp

Mezzanine (3/3)

s o m zz
pt m 2008: E+1,042 ps

21

Infrastructure (1/2)
Among the newest PE-like asset; Global needs for infrastructure assets Roads, ports, airports, energy plant, hospitals. Prisons, schools, etc Mix of private investors and governments through PPP (Public-Private Partnerships); Traditional PE funds raised infrastructure funds: KKR, CVC, 3i, Macquarie; Longer term investment, lower return, steady cash-flow with regular yield; French highways or Viaduc de Millau are contracted to Eiffage/Macquarie;
22

Infrastructure (2/2)
A multi trillion market opportunity:
$1 trillion to $3 trillion annually through 2030; US: power industry needs $1.5 trillion between 2010 and 2030; Mexico: a 5-year and $250 billion plan will be funded 50% by private capital; EU: 164 billion to be invested in natural gas infrastructure by 2030 to facilitate import of gas to meet long-term shortfall; China: close to 100 airports will be needed.
Source: Global Infrastructure Demand through 2030, CG/LA Infrastructure, March 2008. Infrastructure to 2030, volume 2, OECD publication, 2007.

23

Real assets (1/2)

Cash-flow producing asset or pool of assets privately originated:
Equipment leasing (shipping, aircraft): the asset is purchased and simultaneously leased back to the seller; Agricultural finance (forests, timber lands, etc): growing demand from the renewable energy sector; Mines, intellectual property rights, financial assets on the secondary market, etc

It is usually not asset-backed securities but a direct investment in the assets

24

Real assets (2/2)

Steady and regular cash flow: 10%-15% annual cash return; Downside protection due to high recovery value of the assets: loss of value of the asset is unlikely; Uncorrelated assets;

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Why allocate assets to PE ?

26

Portfolio management
Asset allocation is define by returns, risk (measured by standard deviations of returns) and correlations; Diversification improve returns while reducing risk; Allocation is determined using public information of traditional asset classes (equity, bonds, REIT, etc...)
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The issue with private equity

Private market:
PE funds invest in private companies = no public market to help set the valuation; PE funds are themselves private companies = no market to value them and no public disclosure required.

Quarterly valuation:
Risk of inconsistency: quarterly marked-to-market valuation = significant degree of subjectivity; Risk of stale valuation: quarterly valuation can understate the standard deviation and correlation to other asset classes.
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The issue with private equity

Illiquid investments:
PE funds are closed-end funds (except secondary market);

Time line too long:

PE funds has a 5-year investment period and a 10year life;

Restricted information disclosure:

Only LPs have access to the funds performance.

Private equity is an inefficient

arket
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 However, Allocation to PE increased significantly over the last years:

Low correlation to pricing trends of traditional assets; Diversification thus risk reduction; Good returns over the years: Average annual IRR 1986-2005 is 18.3%
30

Reason to invest in PE
Adding a risky asset with a low correlation of pricing trends compared to traditional asset classes can reduce the risk of an overall portfolio; Relatively good returns of PE over the last years.

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LBO activity in urope

32

Geography
LBO activity in Eur
12% 2% 3% 3% 4% 5% 36%

e per value (Q1-Q3 2008)

LBO activity in Eur pe per v lu e (Q1-Q3 2008)

14% 24%

3% 3% 3% 3% 21% 4%

ran e

Ger any eden

Ger any eden

Ne her and

Ne her and Nor ay egu pa n ay her

Nor ay egu her

14% 21%

1 %

33

   
ran e

  

Sectors
LBO a ue in ur pe per ector (Q Q
3%

LBO

ume in ur pe per ector (Q Q

3%

M ter s

He t c re Ret

Foo & Dr ce c s

3% 3%

I s r e

5 7

 

O &G s

% % %

Ot er

5 A

Serv c es & e s

2 $ 0' 0$ ' 4 23 %$ & % (& 1 0'$ $ 2 0$ 0$' $ (%'10'& (%' $ ) ' (%' & $ &%$

4%

f ct r

2 ' 4 &D '% 0C &B 4 3 0$' $ (%'10'& 0$ ' 4 23 ($ 1 0'$ $ 2 0$ (%' & $ &%$ (%' $ ) '
M f ct r He t c re Ret Foo & Bever e c s B e M ter s o ters & to ot ve Ot er

@ 

5 6

 

%
Serv c es & e s

#  "

ectro c s

34

European buyout value

European buyout value: 72 billion in Q1-Q3 2008

35

European buyout by region

Europea LBO volume by regio ( billio )
000 0 0 2001 2002 2003 2004 2005 2006 2007 Jan Sep 08

00 0 60

UK

rance

er any

taly

or ic egion

estern Europe

36

PE as a percentage of GDP
Nordic countries have the most important PE activity; Benelux figures are impacted by few mega deals.
Nordic countries outhern Europe thers . . 3. 3. . . . . . . 7 3 German spea ing countries rance Benelux U

37

European fundraising activity

38

Funds on the market

39

Seeking capital is becoming difficult

Number of vehicles seeking capital keep on increasing; But the number of final closing and the path investors deploy capital has slowed down dramatically; Investors (LPs) are hesitant and sometimes face liquidity issues;
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 Distributions are expected to decrease as well: this wont ease the fundraising processes; Average fundraising:
2008: 14.2 months; 2007: 12 months; 2006: 11.1 months

41

Average fundraising

42

State of the market

Aggregate PE commitments globally are close to $2,000 billion (vs. $1,000 billion in 2003 and an expected $5,000 billion within 5 to 7 years); Globally: app. 1,200 funds are currently seeking $713 billion including:
Buyout: 290 funds seeking $320 billion; Venture: 470 funds seeking $85 billion; Mezzanine: 25 funds seeking $10 billion; FoF: 205 funds seeking $220 billion.
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Funds of the market

Permira: CVC: Apax Partners: Cinven: Charterhouse: PAI Partners: 13.5 billion; 13.7 billion; 11.4 billion; 8.2 billion; 7.4 billion; 5.5 billion.

44

Outlook
PE is set to enter its most challenging time; Increasing pressure and difficulties for managers seeking capital; Fundraising take more time; Less deals are being signed so theres no rush to raise; Historical performances and focus strategies will become key factors in the future: some GPs wont survive; Some LPs will need to free up some capital and clean up their portfolio: increase in secondary transactions. 45

Outlook
PE AUM has grown steadily since 1996:
60% of LPs are expected to increase their allocation to PE;

Sovereign wealth funds are a huge source of capital:

Represent today $3,000 of assets and are expected to reach $7,900 billion by 2011;

Europe accounts for 19% ($580 billion) of SW funds capital;

46

Fundraising sources

47

 LPs usually invest in home-based funds;

48

 Globally, US is the single largest investor; In Europe, UK is ahead of anybody;

49

Profile of the LPs

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The measure of performance

51

Track record
Napoca Fund II
As of 30 December 2007 - $ million

Country

Initial investment date Feb-04 Feb-05 Jun-06 Jul-05

Exit

Cost

Realized value 49.6 151.0 164.2 12.1 376.9 376.9

Unrealized value 0.0 0.0 0.0 0.0 0.0 131.7 55.6 52.8 55.8 46.2 72.2 150.0 564.3 564.3

Total value

Multiple of cost 2.1x 2.3x 4.0x 0.8x 1.9x 1.0x 1.2x 1.4x 1.1x 1.0x 1.0x 1.0x 1.1x 1.3x

Gross IRR

Realized investments Beverage Plus Holdings, LLC Dear Lagoon Sport Management Arizona Napoca Distressed Credit To tal re alize d in v e s tm e n ts Unrealized investments Fenchurch Street Insurance Alketechnic OutSpace Clothing Avi Construction Hospital Management Holdings Pack4Life Foxtruck Finance To tal u n re alize d in v e s tm e n ts

US UK US Other

Mar-07 Jul-06 Apr-08 Jan-08

23.3 65.6 97.7 14.6 201.2 130.0 48.2 38.0 49.7 46.2 72.2 150.0 534.3 735.5

49.6 151.0 387.7 12.1 376.9 131.7 55.6 52.8 55.8 46.2 72.2 150.0 564.3 941.2

38.0% 43.0% 96.0% -

Bermuda Germany Switzerland France US Belgium US

Dec-06 Jun-06 Apr-06 Apr-06 Feb-06 Mar-08 Mar-08

Total Napoca Fund II

5.3% 26.1% 5.1% 5.3%

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Measures of performance
Multiple of cost:
Also called Total Value over Paid-In capital (TVPI); (Cash distributions + Unrealized value)/capital invested; Cash returned regardless of timing (total return).

Internal Rate of Return (IRR):

Discount rate that makes NPV of all cash flows equal zero; Linked to timing: Quick flip = high IRR.
53

The J-curve
In the early years, low or negative valuation due to:
Management fees drawn from committed capital; Initial investments to identify and improve inefficiencies;
Th J-cur ff ct
ctual returns 5 Investments valued elow its cost: - Management fees; - Initial investments V lue

-5 Y r

54

The J-curve
Fees are charged based on the funds entire committed capital; Example:
Fund size: 100 million; Management fee: annual 2% committed capital; Organizational expenses: 300,000 2,300,000 expenses/fees called regardless of any investment made.
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The J-curve
If 5 investments are made the first year for 3 million each: 5 x 3 million = 15 million; If 20% of committed capital is called the first year: 20 million;
Capital contributed Ass ts Investments emainin cash Total assets 20 million 20% of committed capital 15 million 5 investments at 3 million each held at cost 2.7 million 20-15-2.3 = 2.7 million 17.7 million = 0.89x the 20 million contributed by s

Interim value is thus: 17.7 million or 0.89x contributed capital;

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The J-curve
Underperforming investments tend to be written down more quickly than successful companies develop; Example 2nd year:
Another 20% of committed capital : 20 million; Five new deals at 3 million each: 15 million; Two first-year investments are written down/off; Annual management fee: 2 million.
0 million 0% of committed capital

apital contributed Assets: First-year investments 2nd-year investments ash on hand Total assets

10.5 million original 5 investments one written off one written down to half its value 15 million another five investments at 3 million each held at cost 5.7 cash after .3 million of expenses 2+2+0.3 and 30 million of investments 31.2 million 0.7 x the 0 million

57

The J-curve
Companies performing well, held at cost or conservative valuation, understate the value of the portfolio; Interim is thus often misleading; NAV + cumulative distributions track over time relative to contributed capital:

58

Fund of Funds due diligence: the selection of PE managers

59

Due diligence focus

Quantitative analysis:
Past investments and track record; Leverage and debt; Sources of proceeds.

Qualitative analysis:
Team; Strategy; Market opportunity
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Critical items of due diligence

Track record: whats behind a bad investment?; Unrealized portfolio: lack of recent track record and ability of current team look at current valuation carefully. Organization: fund size, multi or single office, Pan-European, domestic or transatlantic, risk of spin-off, autocratic management, etc; Team: number of Partners, Principles and Associates, carry split, staff retention and turnover, motivation in case of large distribution under previous funds, key man clause, succession issues.
61

Reasons to invest
Attractive track record; Experienced investment team; Differentiated investment strategy; Proprietary deal flow; Sector/geographic focus.

Must be combined with FoF portfolio management and exposure > seek diversification.
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Track record
Entry and exit date; Realized and unrealized value (part sell off or recapitalization); Multiples of cost and IRR.
eali ed invest ents Be erage l s l i gs, ear ag rt Ma age e t ri a a ca istresse re it T o tal p artially re alize d i v e s t e t s Unreali ed invest ents Fe c rc treet I s ra ce l etec ic t ace l t i g i str cti s ital Ma age e t l i gs ac ife Foxtr c Fi a ce T o tal r e alize d i v e s t e t s

t er

Belgi

63

Total Napoca und II

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Ber a er a y it erla Fra ce

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. . . . . .

ih d u u v y x x

As of

ece ber

- $ illio

Countr

Exit

Cost

rq q rq

ll zn |z l q l p l l n l y l o n m l z l nl o mn l y mj m k g pg f hf h h f r hff h g fe d c i b W ` Y

U R T PPS R Q PI p ii

H G FE

Napoca

II Initial invest ent ate eali ed value Unreali ed value Total value Multiple of cost ross I

Benchmark analysis
und by fund basis Napoca und I 2001 $714.0 $713.8 $2,518.5 $67.4 $2,585.9 Napoca und II 2005 $1,305.0 $611.3 $303.4 $333.7 $637.1 5.3% Too i Eu ro p e . Vi tage Year Fund i e ontri uted ca ital istri utions Residual alue Total Value

Lower oundary of Quartile DPI Na oca Lower oundary of Quartile RVPI Na oca Lower oundary of Quartile TVPI Na oca Lower oundary of Quartile

er Quartile

3.53x

0.50x

0.09x er Quartile

0.55x

3. x er Quartile

Eu ro p e 1.04x 1st

TVPI: Total Value Paid In: Realized and Unrealized value.

1.04x US 1. x 1st Eu ro p e 0.18x 1st US 1.15x 3rd

64

Eu ro p e NA

US 0. x st

Eu ro p e NA

US 1.03x t

er Quartile

Eu ro p e . x st

US 0. x st

Eu ro p e 0. x st

US 0. x st

RVPI: Residual Value Paid In > Unrealized value;

42.3% Eu ro p e . st US . st

Net I a oca

Gross I

55.6%

DPI: Distributed Paid In > Proceeds distributed, only realized deals;

Venture Economics Benchmark Comparison (as of 0 September 00 )

ature US .

Vintage year performance

Cumulative Vintage Year Performance (Thomson Venture Xpert - as of 30 June 2008) Vintage Year 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 Number of funds included 12 17 15 8 12 14 14 20 32 34 31 32 21 27 17 15 33 19 11 Capital Weighted Average
10.60 9.50 14.80 27.30 18.10 42.60 43.30 14.60 19.00 8.50 10.10 13.60 26.40 20.30 20.70 28.80 1.90 -13.40
0.30

Average
5.20 11.90 14.10 21.70 22.80 27.20 27.70 27.40 16.70 5.90 7.10 10.00 15.10 15.80 12.10 21.70 5.90 -1.50
32.30

Pooled Average
9.30 9.20 16.90 27.20 17.30 42.50 36.00 11.40 14.60 8.90 11.00 14.60 26.00 23.30 26.50 21.90 6.30 -12.90
1.80

Maximum
23.30 35.70 40.20 42.80 87.90 59.80 107.30 268.10 132.80 30.20 40.80 35.00 64.80 110.10 45.50 234.10 82.40 91.30
436.50

Lower Lower Lower boundary of boundary of boundary of 1st Quartile 2nd Quartile 3rd Quartile
14.30 19.50 23.60 32.30 26.80 49.20 60.10 21.00 21.30 9.70 12.70 17.80 28.20 27.50 22.90 17.50 11.50 5.60
12.80

Minimum
-24.20 -3.40 -17.50 1.70 -9.90 -1.80 -16.00 -12.40 -17.40 -11.10 -16.40 -9.60 -5.30 -7.10 -8.50 -19.60 -50.90 -40.10
73.80

8.70 8.90 13.20 22.10 15.70 16.50 13.90 12.80 6.70 4.30 6.00 8.80 11.30 8.30 6.10 -0.20 2.70 -4.40

-0.10 3.00 6.20 10.20 9.00 14.60 1.00 6.90 -0.60 -0.90 -0.20

-0.40 -1.30 -5.10 -7.10 -14.40

32.00

2007

Average Minimum Maximum Median

85.12 23.30 268.10 62.30

23.42 5.60 60.10 21.15

8.97 -4.4 22.10 8.75

1.3 -14.4 14.60 -0.2

-15.0 -50.9 1.70 -11.8

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Presentation
Private equity investors and their managers: Vivre avec un fond dinvestissement, Les Echos, October 2006

66

The worlds biggest private equity firms

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Carlyle
Founded in 1987 by David Rubenstein, Daniel DAniello and William Conway; Since inception, Carlyle has invested $49.4 billion of equity in 836 deals for a total purchase price of $220 billion; Over $89 billion AUM throughout 64 funds in buyouts (69%), growth capital (4%), real estate (12%) and leveraged finance (15%); Over 525 investment professionals operating in 21 countries; Assets deployed in Americas (59%), Europe (28%) and Asia (13%); Currently: 140 companies, $68 billion in revenues and 200,000 workers.
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Source: www.carlyle.com

Carlyle deals
Hertz Zodiac Terreal Le Figaro VNU

69

Blackstone
Founded in 1985 by Steven Schwarzman and Peter Peterson; Global AUM $119.4 billion in private equity, real estate, Funds of Hedge Funds, CLOs, Mutual funds; 89 senior MDs and total staff of over 750 investments and advisory professionals in US, Europe and Asia; Blackstone is the first major PE firm to become public: IPO was in June 2007 at $36 under water since first day ! Currently: 47 companies, $85 billion in annual revenues and more than 350,000 employees.

70

Blackstone deals
The weather channel: $3.6bn in September 2008; Hilton: $26.9bn in October 2007; Center Parcs: $2.1bn in May 2006; Deutsche Telekom: 3.3bn in April 2006 (minority); Orangina: $2.6bn in February 2006;
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KKR
Founded in 1976 by James Kohlberg, Henry Kravis and George Roberts; Total AUM $68.3bn from $25.4bn invested capital; Total of 165 deals since inception with an aggregate enterprise value of $420bn; KKR is currently from a one-trick pony to a multi asset manager with infrastructure and mezzanine funds being raised; The $31bn buyout of RJR Nabisco inspired the book Barbarians at the gate; Currently: 35 companies, $95 billion in annual revenues and more than 500,000 employees.
72

KKR deals
Legrand; Pages Jaunes; Tarkett; Alliance Boots; ProSieben; TDC; Toys R Us.
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PAI Partners
The biggest French PE firms formerly known as Paribas Affaires Industrielles; Since 1998, PAI invested 3.92bn in 36 deals across Europe; Last fund raised reach 5.2bn Investments include: Kaufman & Broad, Vivarte, Neuf Cegetel, Panzani Lustucru, Atos Origin
74

Private equity deals

Private equity funds own companies of everyday life
Pages jaunes; Comptoir des cotonniers; Pizza Pino; Picard; Alain Afflelou; Jimmy Choo; Odlo; Orangina
75

Impact of PE on French economy is overall positive

2006-2007 employees growth rate:
+2.1% (vs. 0.5% for CAC 40);

2006-2007 sales growth:

+5.3% (vs. 4.1% for CAC 40);

76
Source: AFIC/Ernst&Young

 As of 30 June 2006:
55% of PE-backed companies have less than 100 empoyees and 83% have less than 500 employees; 79% have less than 50m revenues; 4852 PE-backed companies in France; Work force of 1.5 million people (9% of total private employees); 199bn in revenues including 128bn generated abroad.
77
Source: AFIC/Ernst&Young

Presentations
KKR Blackstone Carlyle

78

The mega buyout era

79

Fund growth
PE AUM 1980-2006: 24%CAGR; 2003-2006: PE commitments increased 260%; Cost of debt historically low Global volume of LBOs increased to $700 billion in 2006 (4x 2003 level); Global volume of LBOs in H1 2007 reached $560 billion (25% of global M&A).
80

 Bigger are the funds, bigger are the target companies;

Fund size and deal size are correlated; Club-deals were required to complete the biggest acquisitions;

More cash you have,more cash you need:

Co-investors such as other funds, LPs or shareholders of target companies were sought after; Some funds created quoted vehicles to access permanent capital or listed the management companies on the public market;

81

Large funds are getting (much) larger

US 12 largest funds raised in the US as of June 2007 totaled close to $155 billion:
This represents a 142% increase compared with their predecessor funds; In Europe, the fund-to-fund increase of the 12 largest funds was only 75%;

In addition, GPs were starting to raise at shorter intervals.

82

Rational for larger pools of capital

Economies of scale in the management of the fund; Higher management fee enable to build top investment teams; Expanded buyout opportunities at the larger end of the market:
Higher quality assets; Less competition at the upper-end of the market; Huge potential returns.
83

Rational for larger pools of capital

Ability to pursue a pro-active acquisition strategy; Implement a levered capital structure; Flexible (covenant-lite) and low-cost financing; Various exit options (IPO, Corporate transaction, secondary buyouts...)
84

Target companies
Very large companies are attractive targets:
Mature companies need restructuring effort to get rid of the fat; The value-addition is thus often obvious an obvious path; Usually less competition among the buyers.

Public market offer a lot of opportunities:

PE investors add value to the company they invest in as opposed to passive public shareholders.
85

Rise of Club-deals
Club-deals are iconic of the concentration trends of private equity; 91% of US buyouts of over $5 billion were club-deals... ... but also 38% of P-to-P valued between $250 million and $1 billion were club deals:
Many firms shared the risks and pooled resources.
86

Disappearance of club-deals
Collusion charges; Difficulties to share informations; Tendency to monopolize the control the control; Ego-issues.

87

Examples of mega club deals

Target
Hospital Corp, of America Harrahs Entertainment Clear Channel Kinder Morgan Freescale Semiconductor Hertz TDC

a ue
$32.7 billion $27.4 billion $25.7 billion $21.6 billion $17.6 billion $15.0 billion $13.9 billion

Buyers
Bain Capital, KKR, Merrill Lynch Apollo, TPG Bain, Thomas H Lee Carlyle, Riverstone, Goldman Sachs Blackstone, Carlyle, Permira , TPG Carlyle, CD&R, Merrill Lynch Apax, Blackstone, KKR, Permira, Providence 88

Presentations
Caveat Investor / the uneasy crown, The Economist, Feb 2007; Whos next, The Deal, July 2008

89

Value creation in private equity

90

Value creation drivers

EBITDA generation Multiple expansion Debt reduction

91

EBITDA generation
EBITDA is generated by:
Sales expansion; Margin improvement; Add-on acquisitions; Organic growth (=GDP growth)

92

Multiple expansion
Multiple: EV/EBITDA; Based on comparable transactions; Multiple expansion: Difference between entry and exit multiple; =Multiple uplift x Exit EBITDA Multiple uplift:
=Exit EV/EBITDA entry EV/EBITDA
93

Debt reduction
= Entry net debt exit net debt

94

Example
EV creati
323.6

345.1

764.0

En y E

gene a ion

Mul iple expansion

ele e aging

Exi E

61.0

1 493.7

95

What to understand from EV creation

If most of the value comes from:
EBITDA increase: growing industry and/or company, possibly in a young market or efforts mainly on sales force; Multiple expansion: margin increased over the holding period; the investors rationalized and optimized the production, cut costs, disposed of non core assets, arbitrage strategy, etc Deleveraging: usually the last factor to be implemented; Debt reduced by cash not reinvested.
96

C mpany A

EV 1,275.0

Entry EBITDA Net debt 150.0 45.0

Multiple 8.5

EV 1,97 .0

Exit EBITDA Net debt 210.0 5.0

Multiple 9.

EBITDA generati n

1,275.0 = Enty EBIT A x Entry multiple (1) 1,785.0 = Exit EBIT A x Entry multiple (2) =( )-( ) 0.7 = Multiple uplift (exit EV/EBIT A - entry EV/EBIT A) (3) 210.0 = Exit EBIT A (4) = ( ) x (4) 45.0 = Entry net debt (5) 5.0 = Exit net debt ( ) 4 . = (5) - (6) 697. 1,97 .0 = Entry EV + Total value creation

Multiple expan i n

Debt reducti n

Total value creation Exit EV:

97

V lue creat o chart

M li l D g . r . : r i : . si : D r . i : i 9 :

D g

r i

M li l

si

98

Factors of value creation

Changing business and driving growth:
Taking advantage of market cycles (buying cheap, selling at better price) and financial engineering are no longer enough;

Objectives must be well defined; Management is incentivized: alignment of interest between Board members and shareholders; Must create value for the next acquirer: PE is not necessarily short term focused.
99

Other factor: Industry characteristics

Stability, low cyclicality; High margins (or potential for improvement); Strong operating cash-flows:
PE businesses are cash-flow driven rather than earning driven: need to pay down the debt

Industry-wide revenue growth; Potential for overall efficiency improvements.

100

Other factor: The GP makes the difference

Managers contribute to value creation:
Select the right target companies; Undertake appropriate changes; Experience of the GPs/prior buyout experience

Focus on few sectors generates better returns:

Industry-focus strategy generate better returns; but moderately diversified approach generates better returns; Focus strategy exposes to industry cycles but good industry expertise;

Example of bad deal in the wrong industry: Foxton deal The deal of the century, FT
101

 Recruitment/management; Buy-and-build; New investments to develop to new markets; Optimization/cost cutting; Divesture of non core business(es)

102

Primary source of value creation (%)

Almost 2/3 of the value generated comes from company outperformance: Companies fundamentals are key drivers of growth.
Sample: 60 deals from 11 leading PE firms
Ar itrage %

Market/sector appreciation plus financial leverage 32%

Company outperformance 3%

So r e: M Kinse & Compan

103

 Five features of a leading-edge practice:

Expertise and knowledge: insights from the management, trusted external source; Substantial and focused performance incentives: top management usually owns 15-20% of the equity; Performance management process: initial business plans are subject to continual review and revision; Focused 100-day plan: deal partners must devote most of their time to a new deals to build relationship, detail responsibilities and challenge the management; Management should be changed sooner rather than later
104

Presentation
Foxtons: The sale of the century, FT magazine, June 2008

105

Structure of a Leverage Buyout transaction

106

Structure of a leverage buyout

Deal structure:
Equity Debt

Debt is either:
Unsecured Secured

107

LBO structure
Senior debt Nine-year Nine-year Nine-year Nine-year average: E+284.5; median: E+287.5; minimum: E+249.5 in une 2007; maximum: E+287.5 in une 2008*.

Secured

2nd lien

2nd lien have disappeared ith the credit crunch; they ere seen as cheap me anine.

Me

anine

Me anine benefits from the credit crunch; Me anine reimbursement has cash and PIK components; 1 2008 cash spread: E+414.7 1 2008 PIK spread: E+535.3

nsecured debt

nsecured debt usually bonds

nsecured Equity contribution 10-year minimum: 29.6% in 1997; 10-year maximum: 42.9% in 1 2008; 10-years median: 35.9%; 10-year average: 36.0%

Equity

108

Equity
Common equity, preferred equity, shareholder loan; Equity is unsecured and the most risky and rewarding tranche; Equity is held by the shareholders: private equity fund, management, various investors, often debt mezzanine providers, sometimes intermediaries.
109

Mezzanine debt
Secured debt but subordinated to senior debt; Mezzanine is provided by mezzanine funds and sometimes hedge funds; Reimbursement after the senior debt but has priority over the equity holders Reimbursement is cash or PIK; PIK note: payment made in additional bonds or preferred stocks which increase the performance of the investment; Mezzanine is usually reimbursed at exit if not refinanced before. H1 2008 cash spread: E+414.7bps H1 2008 PIK spread: E+535.3bps
110

Second lien
Developed pre-July 2007 and does not really exist anymore: as of Q3 2008, 12% of LBOs used 2nd lien versus 52% in 2007; Reimbursement in cash, priority level between senior debt and mezzanine; Second lien was seen as a cheap mezzanine.
111

Senior debt
Negotiated for a period of time between 7 and 9 years usually based on expected cash flow; Tranche A is first reimbursed. Other tranches (B and C) are usually reimbursed in fine; Tranche D is a revolving credit to refinance previous debt of the target company; H1 2008 spread: E+337.48bps
112

Capital structure
enior debt Nine-year Nine-year Nine-year Nine-year average E+284.5 median E+287.5 minimum E+249.5 in une 2007 maximum E+287.5 in une 2008 .

Secured

2nd lien

2nd lien have disappeared with the credit crunch they were seen as cheap me anine.

Me

anine

Me anine benefits from the credit crunch Me anine reimbursement has cash and IK components H1 2008 cash spread E+414.7 H1 2008 IK spread E+535.3

Unsecured debt

Unsecured debt usually bonds

Unsecured Equity contribution 10-year minimum 29.6% in 1997 10-year maximum 42.9% in H1 2008 10-years median 35.9% 10-year average 36.0%

Equity

113

The loan market: in 2008

Average leverage of European LBOs: 4.5x in Q3 2008 vs. 7.0x in Q3 2007; Average equity contributions: 43% in Q3 2008 vs. 34% in Q3 2007 European Senior loan in Q3 2008: 450-550bps (compared to 225bps-275bps in early 2007) partly offset by lower base rates; Mezzanine margins have increased to 1100 1300bps plus warrants or equity co-invest (compared to 750-900bps with little call protection and no equity participation in 2007);
114

Average LBO equity contribution

Less debt available = ore equit required to close a deal

Average LBO equit co tributio

5 5
. . . 5.9 . . . . .9 .

5 5 15 1 5 1

115

Loan volume dropped significantly

Banks lending capacities are dry ! 1-Q3 2008 loan volume: 46.6 billion Q1 2007 loan volume: 45.75 billion
Annua senior loan volume (in bn)
150 130 110 90 4 70 50 30 10 - 10 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 3 2 1

116

Evolution of capital structure

Back t th classic structur : S nior D t + M zzanine

Ev lution f
1
1

it l structur

v ry

rs

r r r r n Mezz n nly ien ien Mezz

1H

1 7

11 7

117

Cost of debt
C st f ebt increase significantly in 2008
LBO c st f f
. . . . . . . 1 1 . . . Se ior debt Se ior debt Me i e -Se 8 9. .9

ing in b s

118

LBO spread
Avera e rea f r initial and ec ndary uyout
E+344. 8 in June 2008

340 320 300 280 2 0 240 220 200

n00 ay -0 0 ep -0 Ja 0 n0 M 1 ay S e 01 p0 Ja 1 n0 M 2 ay -0 2 ep -0 Ja 2 n0 M 3 ay -0 3 ep -0 Ja 3 n0 M 4 ay -0 4 ep -0 Ja 4 n0 M 5 ay -0 5 ep -0 Ja 5 n0 M ay -0 ep -0 Ja n0 M 7 ay -0 7 ep -0 Ja 7 n0 M 8 ay -0 8 M

Ja

E+253.78 in Sept. 2000

E+298.39 in Au ust 2001

E+301. 6 in January 2004

E+249. 8 in June 2007

119

The loan market

Loans started to fall below par value (100) in June 2007; Secondary market became depressed (less liquidity, decline in value, etc) but presents some good buying opportunities; Default rate at its lowest level although was expected to increase in 2008; A lot of new investors (incl. traditional PE funds) entered the loan market in H1 2008 with levered vehicles; They did not anticipate that the loan market will decline even more sharply in 2008 = BAD Sponsor-backed credit is usually poorly valued regardless of the companys performance
120

Consequences
The market is stuck:
sellers have not yet adjusted their price; Buyers dont want/cannot pay high price.

Deals are negotiated at cheaper:

EBITDA multiples are lower More equity and less debt = more conservative structure
121

EBITDA multiples
Average LBO
12. x 1 . x
.2x 9. x . x . x . x .1x . x . x . x . x . x

rc ase rice (EB TDA

ltiple)
1 .9x 1 . x

. x . x . x 2. x . x

99

2Q

3Q

19

19

19

122

Purchase prices
econdary buyou s are he mos impac ed as: hey were radi ionally he mos e pensi e ransac ions = price adjus men ; ellers are ery likely forced o sell so accep l wer prices
Purchase rice er deal t
11 0 10 5 10 0 95 90 ll 85 80 75 70 65 60 2002 2003 2004 2005 2006 2007 2008 uyou s ponsor o ponsor orpora e Public o Pri a e

123

The pros and cons of being private

124

Results of a 2008 McKinsey survey:

Private equity Boards are overall more efficient than public equity Boards:
Better financial engineering; Stronger operatonal performance.

Pros and cons of public equity Boards offer some:

Superior access to capital and liquidity;

More extensive and transparent approach to governance and more explicit balancing of stakeholder interests.
125

Public versus Private: differences in ownership structures and governance

Public companies have arms length shareholders:
Need for accurate and equal information among shareholders and capital market (audit, remuneration, compliance, risk); Management development across the board.

Private equity companies have more efficient processes:

Stronger strategic leadership; More effective performance oversight;

Manage only key stakeholders interests.

126

Rating of public and private Boards of Directors

Private e uity Boards Public co panies Boards
4.8 4.3 3.8 3.3 3.1 3.3 4.1 3.8 3. 4.8 4.2 4.6

Source: cKinsey

uarterly, The V c e f Ex er ence P

c vs. Pr v te Eq ty

Strategic leaders ip

Perfor ance anage ent

Develop ent/succession anage ent

Stake older anage ent

overnance (audit, co pliance and risk)

verall effectiveness

127

Strategic leadership in PE companies

Joined efforts of all Directors; Usually, defined and shaped dring the due diligence (prior acquisition); Boards approve management strategic decision (in M&A for example); PE funds stimulate managements ambition and creativity; Executive management reports on the progress of the latest strategic decision implemented.
128

Strategic leadership in public companies

Boards only oversee, challenge and shape the strategic plans, accompanying the management in the implementation; The executive management takes the lead in proposing and developing it; it is mainly a formal reporting.
129

Performance management in private equity companies

Private equity have one focus: realisation of their investment; Consequently, PE Boards have a relentless focus on value creation drivers ; Performance indicators are clearly defined and focus on cash metrics and speed of delivery.
130

Performance management in public companies

High level performance managment, no real detailed analysis; Focus on quarterly profit targets and market expectations; Need to communicate an accurate picture of short-term performance; Budgetary control, short-term accounting profits; Public companies Boards focus on information that will impact the share price.
131

Management development and succession in private companies

PE companies mainly focus on top management (CEO, CFO) and replace underperformers very quickly; Very little efforts deployed on long-term challenges such as development of management, succession, etc
132

Management development and succession in public companies

Efficient thorough management-review: top management and their successors; Focus on challenges and key capabilities for long-term success: management development and remuneration policies; However, public Boards have weaknesses:
Slow to react and their voice is more (perceived as) advisory than directive; Remuneration decisions sometimes more driven by public/stakeholders expected reaction than performance
133

Stakeholder management in private companies

Executive management can clearly identify a majority shareholder; PE funds are locked-in for the duration of the fund; PE fund represent a single block and are much more involved and informed than public shareholders; Less onerous and constructive dialogue; No or little experience dealing with media and unions (see Walker report and debate over PE in 2007)
134

Stakeholder management in public companies

Shareholding struture is more complex and diversified than private companies:
Institutionals, minority individuals, growth investors, long-term strategic, short-term hedge funds.

Different priorities and demands: CEOs need to learn to cope with this very diverse range of investors; In case of P2P, HF can block the privatization (95% threshold to delist): Alain Afflelou purchase by Bridgepoint.
135

Governance and risk management in public companies

Where public companies score the best: consequences of Sarbanes-Oxley legislation and Higgs Report; Several subcommittees to scrutinize remuneration, audit, nomination, etc Overall Board supervise and can rely and decide on the subcommittees recommendations; Important factor of investor confidence; Downside: expensive, time-consuming, inefficient sometimes (The focus is on box-ticking and covering the right inputs, not delivering the right outputs)

136

Governance and risk management in private companies

Lower level of governance than in public companies: only audit committees are needed in PEs approach; More focus on risk management than risk avoidance; Not perceived as a pure operational factor.
137

Top priorities
Private e uit 18 oards Publi o panies oards
ample of 20 based dire tors o ave served on t e boards of bot private and publi ompanies, most it an of million.

11

0
alue re tion it str te tr te i initi tives in lu. ternal relations 1 da plan Governan e, o pli n e nd ris r ni tion desi n nd su ession

138

our e

inse Quarterl , The Voice of Experience Public vs. Private Equity

   

Surveys conclusion
Public companies Directors are more focus on risk avoidance than value creation:
They are not as well financially rewarded as PE Directors by a companys success but they can still lose their hard-earned reputations if investors are disappointed.

Greater level of engagement by nonexecutive Directors at PE-backed companies:

In addition to formal meetings, PE nonexecutive Directors spend an additional 35 to 40 days a year to informal communication with the management.
139

Credit crisis: impact and consequences on private equity

140

Before July 2007 (1/3)

Growth of the institutional loan market, CDOs and second lien loans; Intermediaries/brokers underwrote debt to sell to other investors for syndication fee: became less demanding in terms of potential risk/reward; Multiplication of highly rated structured credit products (CDOs/CLOs) although their inherent value was increasingly complex to calculate; Increasing interest from investors for LBO funds led to higher leverage; New loans were issued as covenant lite arrangements:

DONNER DES EXEMPLES DE COVENANT A RESPECTER DANS UN LOAN TYPE

141

Before July 2007 (2/3)

Increasing leverage loan activity but decline of credit quality of the new debt due to:
Covenant lite; Rising ratio of debt to earnings for US and EU LBOs; Mid and large LBO debt/EBITDA ratios were at all time high in 2007 (and were even higher for large than mid LBOs).
142

Before July 2007 (3/3)

Three indicators of a bubble:
Debt/EBITDA ratio at all time high in 2007: a decline of operating performance will expose the company to the risk of default; Companies under LBOs have less liquidity to serve their debt; Interest coverage ratio decreased since 2003 reaching a ten-year low of 1.7x in 2007.

More equity + more debt = bigger deals and bigger leverage;

143

After July 2007 (1/5)

Sudden increase in credit spreads makes the debt more expensive and more in line with the real risk held by the debt holder; Banks and debt underwritters could not distribute their debt to other investors: had to keep it on their balance sheet while their value was declining;
A number of transactions collapsed and could not be closed; Banks that did not distribute their debt had to report significant losses on their books.
144

After July 2007 (2/5)

Slowing buyout activity in US and Europe (almost no activity in 2008); Debt was repriced and more difficult to access; Default rate was historicaly low as of July 2007; Meant to rise sharply since then, starting with construction, airline and retail industries as global recession is impacting our economy; 145

After July 2007 (3/5)

Increase in the issuance of junk bonds: in the past four years, almost half of the newly issued bonds have been rated as junk at their outset; Default risk (according to Moodys and Edward Altman (NYU Salomon Center)):
CCC 4-year default risk: 53.6%; CCC 10-year default risk: 91.4% in 10 years; B default risk: 25.2% after four years.

In reality, the default rate over the last years is much lower that those predictions; 146

After July 2007 (4/5)

Reasons for the low deafult rate:
Given the lareg amount of liquidity, bonds that would have defaulted have been refinanced; The rise of covenant lite means that any event short of a failure to pay interest would not result in a default;

Private equity deals should be seriously impacted very soon; Deals signed in 2005, 2006 and H1 2007 are the most risky deals; 147

After July 2007 (5/5)

The crisis opens doors to new investment opportunities:
Distressed debt and special situation funds; Need for leverage should benefit mezzanine funds; Credit dislocation funds: purchase loans at a discount from lenders; Small to mid-market buyout funds will benefit from desaffection for mega buyout firms; Secondary funds: some large institutions need cash.
148

Consequences
June 2007 Top of the cycle June 2008 Recession

Prices are too high Risk levels are extraordinary Liquidity is driving behaviour Sellers market No distressed opportunities

Prices are falling. More to go The risk profile has changed fundamentally Lack of liquidity is driving behaviour Buyers market but must proceed carefully and beware the falling knives Some interesting distressed situations (and even more to come)

149

Crisis = opportunities
Recession years have produced the best vintages for private equity; Although some LPs are facing liquidity crisis, more money should be deployed now and in 2009 ! Recession years considered to be 1991 + 2 years and 2001 + 2 years.

150

Recession years are usually good vintage years

151

Recession vs Non-recession

152

Case study: Baneasa

153

Investment rationale
Market leader in French retail (#1 in Footwear and #2 in clothing); Experienced management team: Bogdan Novac has a long standing experience of the sector and the group; Strong financial performance and strong growth in sales expected over the next 3 years; Resilient business model: lower end of the market and diversified range of products; Diversified offering: geography (city centre or out of town, France and overseas, apparel and footwear); Potential growth prospect: organic growth (new stores openings) and consolidation (fragmented industry).
154

 Banesa is #1 Fragmented industry, footwear retailer with gives M&A 14.4% of the French opportunity/growth by market and #2 acquisition clothing retailer in France with only 3.7% of the French apparel market

155

 45% of OOT footwear market and 24% of OOT clothing market

Indication about competition: Zara, H&M, Mango, etc are city centres = Baneasa has a dominant position where those competitors are not present. Zara, H&M, Mango, etc are thus the main city centre competitors;

156

 Historically, Baneasa has always been active in OOT: created suburban discount shoe stores in 1981 with Osier Chaussures; and in 1984 with Osier Vetements

First mover advantage

157

 Clothing business: 44% sales and 43% of EBITDA and Footwear business: 56% sales and 57% EBITDA

Well balanced, similar EBITDA margins in both segments

158

 France: 93% sales and 95% EBITDA; Out Of Town: 68% sales and 72% EBITDA

Baneasa is diversified (but maybe not as much as the investor thinks); Sales and EBITDA indicates that city centres and overseas stores are more expensive (lower margins, Baneasa has lower performances abroad and in city centres where is the tough competition)
159

 Bogdan Novac was CEO of Baneasa from 2000 to 2003 and 2004 to today. EBITDA has grown from 231m to 365m (a CAGR of 16.4%)

Good management team // experienced CEO

Strong performance over the last years (since 2003)

160

 Nataf estimates sales and EBITDA in the financial year to 28 February 2007 of 237 million and 23 million respectively (9.7% margin). Berrilio had sales in the 12 months to 30 September 2006 of 64.5 million and EBITDA of 4.6 million (7.3% margin).

Nataf and Berrilio offer potential margin improvements as the margin is 9.7% and 7.3% respectively versus 16.1% margin for Baneasa.

161

 The actors must gain French clothing market share to grow: market has been no organic growth stable since 2000 with 0.2% CAGR resulting from industry growth

162

 Average prices have decreased by 1.5% CAGR. Price-volume elasticity is high with declines in average prices driven by the passthrough of purchasing gains from lower-cost sourcing (Asia) to endcustomers and from the increasing development of value retail.

Pressure on cost, margins are difficult to increase and can only be increased through cost reduction (rather than price increase): price pressure on Baneasa + tough competition + need to keep production cost low (cost cutting and tough negotiation with suppliers)
163

 Womenswear represents the majority of the French market with 51% of sales. It was the strongest growing segment as well as the most competitive and innovative until 2002.

Womenswear is the core business

164

 Menswear has experienced fast growth rates in recent years due to the introduction of semi-annual collections and has increased its share of the total French clothing market (from 31% in 2002 up to 35% in 2004).

Menswear is a new business with high growth so absolute need to be active

165

 Baby and childrenswear are expected to remain broadly stable, with upside coming from increased spend per child and the emerging trend of higher-priced designer baby and childrenswear.

Children wear is a good market with higher consumer spending

166

Between 2001 and 2003, out-oftown banners saw their market share decline from 11.9% in 2000 to 10.9% in 2003. This reflected the impact of hard discount retailing and the growth of citycentre banners. Since 2003, however, OOT specialised chains have regained share and have returned to 11.7% market share, growing by 3.9% in 2004 and 4.7% in 2005, to 3.1 billion. This dynamism has been driven by new store openings and volume increases supported by increased price-competitiveness.

Potential decline of OOT/inconsistent growth rate: risk.

167

 Specialist out-of-town (OOT) distribution has seen the strongest growth in share (2.3% growth per annum over 2003-05 and 3.2% over 1998-2003) and continues to gain market share on the food retailers and the lowerend city-centre players due to a broad product range and low prices.

Footwear: OOT has a strong growth in share; OOT is where Baneasa is the best with 45% market share (with Osier Chaussures, Velo and Blue Shoes) while the closest competitor has only 10%.

168

 The Spanish footwear market is more dynamic than the French one (3.9% p.a growth since 2000) but experiences the same volume and price trends with volumes up 6.5% p.a while prices decreased by 2.6% p.a largely driven by growing Asian imports. The market is still dominated by independent city centre stores (40% market share vs 15% in France) and OOT footwear is gaining share (8.4% p.a between 1998 and 2003).

Spanish market: active market at the time of the investment (quid now?) but city centres have more market shares than OOT (risk: Baneasa is better in OOT).

169

 Suburban stores are typically large format value stores and account for the great majority of sales and profits, whilst city centre stores are more fashionable premium stores.

OOT stores need high volume sales to be profitable // city centres are more fashionable products so potentially higher margins although probably higher costs (including marketing costs)
170

 Over 2003-06, gross margin has grown at a 9.5% CAGR and EBITDA at 16.4% CAGR while sales CAGR was 5.8%, of which like-for-like sales growth of 3.7%.

Indicates that Baneasa has grown organically and by acquisitions but acquisitions are the main growth factor.

171