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MANAGEMENT BUYOUTS-
AN ATTRACTIVE ALTERNATIVE
In Egypt, where most companies are family-owned, undercapitalized, and lack sophisticated managerial, financial and marketing skills, Management buyouts can help provide liquidity, finance growth and motivate management to act in the best interest of the business.
RAMI BAZZI
PRINCIPAL
INJAZAT TECHNOLOGY FUND
www.injazatcapital.com
The emergence of private equity as a new form of capital for growth in the Middle East has also introduced a new phenomenon to the region, the management buyout (MBO), a form of transaction whereby a company’s existing managers acquire most, or all, of the company. Equity provided in exchange for shares in the company is often coupled with the support of contracted professionals who help institutionalize family businesses, implementing, among other things, a proper corporate governance framework that is the key to the sustainable growth of today’s enterprises.
Management buyouts have established a presence in many other parts of the world and it is expected that this type of transaction will soon gain popularity in the emerging Middle East and North Africa region. Their global popularity is a result of the strong financial results that many companies show following their MBOs.
These transactions usually occur when managers who consider their company undervalued buy out the firm’s existing shareholders. This puts them in a position to execute their vital strategies for growth, aligning the interests of employees and business strategy through equity ownership. As stakeholders, they have a vested interest in the profitability of the company.
The management buyout is a useful tool for companies of all sizes. Family-owned enterprises (FOEs) can use an MBO to exit or rationalize part or all of their assets. As these companies develop and attain the size of large conglomerates, shareholders may wish to focus on their core business and divest the non-core activities. This can be an opportunity for the management of these operations to gain ownership in their business.
The purchase of ATOS Origin Middle East (AOME) is just one example of a successful MBO in the region. AOME had all the right ingredients for a fruitful MBO; it was a commercially viable business run by a capable, committed and well-balanced management team. In 2006, AOME’s parent company, ATOS Origin France, was willing to sell the company at a reasonable valuation price to its management, which was supported by a private equity firm. The private equity firm realized an exit through the sale of AOME to Hewlett-Packard, securing an internal rate of return of 75 percent for its shareholders.
Obstacles and opportunities
In many ways, Egypt is ideally suited for management buyouts. Unlike in other parts of the world, the majority of local businesses are family-owned, with only a few of the largest companies listed on a stock exchange. Yet, according to the OECD, some of the 20 biggest companies in Egypt are not publicly traded.
But Egypt’s growing small and medium-sized enterprises (SME) sector provides even greater opportunities. There are more than 128,000 small companies and 400,000 medium-sized companies in Egypt, according to the Ministry of Finance. Together, these firms account for over 99 percent of non-agriculture activities.
While SMEs account for an estimated 80 percent of Egypt’s GDP and 75 percent of employment, most of these firms are in need of financing to support growth and expansion. Yet they face difficulty in obtaining equity due to high cost, low return and difficult exit. They often also lack credit guarantees, accounting systems, solid historical track records and a competent management team.
It has been reported that 75 percent of SMEs – and 92 percent of small firms – applying for bank loans are rejected. Just 6 percent of all bank loans are granted to SMEs.
In addition to the financing issue, aging founders of FOEs are now facing concerns regarding leadership and ownership succession, family employment, distribution of profits, internal-external shareholder tensions, work responsibilities, accountability and governance. Family business owners are being forced to retrench, economize and become more productive. The global economy is demanding more and more from them. Yet successful transition of Egyptian business leadership from founders to the younger generations is both very delicate and critical.
In recent years, Egypt’s family-owned businesses have begun showing greater interest in rationalizing their assets, mainly due to the economic reforms, including the privatization of state-owned enterprises, undertaken by the government. The first known management buyout in Egypt took place in January 2003, when the management team of confectionery maker El Rashidi El Mizan bought their company back from consumer goods giant Unilever in a $20 million private deal. The private equity firm that committed to support the management in this MBO recently exited its investment in El Rashidi El Mizan after growing the business substantially, effectively rebranding and repackaging the company’s sesame-based products in the Egyptian market.
The food company has seen a marked improvement in its overall performance, with sales figures more than doubling between 2002 and 2006, in addition to improvements in the quality of earnings. It has also gained recognition as a market leader and as a world-class business operating to international standards in all aspects of its operations.
So why were management buyouts so late in coming to Egypt? To begin with, there were few financiers supporting such transactions. In addition, structuring an MBO transaction can be very time-consuming and requires finance professionals to negotiate potentially complex financing structures, especially when leverage is involved. The rise of private equity funds (see sidebar below) could easily solve this problem.
A second reason is the simple fact that business owners never thought of their own managers as potential shareholders, as they did not have the capital to purchase a stake. At the same time, managers would not risk their jobs by discussing opportunities with investors who did not have knowledge about MBOs.
MBO momentum
Management buyouts have been gaining momentum with a number of deals last year in the MENA region. The micro and macro economic factors for MBOs to prosper in Egypt are clear. The government’s efforts to restructure the economy and diversify the country’s sources of income have resulted in a growing role for the private sector. This has made SMEs and FOEs, which constitute the majority of private businesses in Egypt, new strategic partners to foster economic growth.
Pressures to comply with best corporate governance standards have had a significant impact in addressing matters such as the separation of ownership and management, increased transparency and succession challenges. Moreover, globalization and increased competition are dictating the new rules of efficiency and profitability. SMEs and FOEs are acknowledging that professionalization of their business is a requirement for their growth, if not their survival.
The alignment of interests between managers and owners has been taking different forms, especially in stock option plans and performance-linked bonuses. These newly implemented motivational tools, and the growth of private equity, have reinforced the possibility of importing the MBO model to Egypt. With increasing pressure on family-owned businesses and governments to thrive in the global economy, private equity vendors may well hold the big shiny key to success.
THE RISE OF PRIVATE EQUITY
Private equity provides an alternative to bank financing that can help increase a company’s activities and competitiveness. Institutional investors and wealthy individuals are prepared to back private companies by:
- Providing long-term financing that matches a company’s needs
- Developing entrepreneurial potential
- Disseminating a culture of better governance
- Improving significantly the company strategy and financial management
- Addressing needs of companies that do not have access to equity from traditional sources
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