Something Needs to Be Done
Whatever assessment one may have regarding the shape of the post-pandemic recovery, everyone seems to agree that one thing in particular needs to be done. Governments and central banks have already begun doing it, and even the slow-moving ship of the European Union has departed port. What is this thing? The creation and distribution of money, on an unprecedented scale (who would have thought that this word, “unprecedented,” still had any meaning after more than ten years of monetary easing?).
What is new this time is that the central banks will not be left to fight the economic malaise alone, as governments will use their fiscal and monetary policy tools to stimulate the economy as well. As governments are highly indebted, we will no doubt witness a merger of the two instruments, with fiscal easing back-stopped by central bank government bond purchases. One way or the other, a tsunami of funds will hit the economy. The question is whether the financial system has all the channels and capillaries necessary to nourish the economy and can safely distribute the money where it is needed.
PE and VC investors are some of the essential conduits for this flood of money to find its way into the economy. The question is how they will step up to this task.
Private Equity Feeding Frenzy?
Private Equity funds have entered this crisis in a better shape than in 2008-2009. At that time, a lot of funds were caught riding a very high valuation wave, which crashed into the return of the PE firms, an experience that led to a significant slow-down in PE activity in CEE for several years afterwards. This time, PE firms have significant “dry powder” and their portfolios are in better shape. The market has been good for PE firms, with deal-flow supplied by generational changes in CEE entrepreneurial businesses and by exits by the smaller PE firms to larger ones once the portfolio companies outgrow their initial PE owners. Also, while leverage is important to any PE transaction, leverage was used more conservatively in CEE – private equity in CEE has always been more about growth than about optimization of capital structure.
Once the sky clears on the pandemic front, it is not unreasonable to expect PE firms to go hunting again. There will be opportunities both in new deals and in bolt-ons consolidating the markets of portfolio companies. Availability of bank financing will be key for larger deals, but a lot of the small-to-medium transactions will likely proceed even as all-equity deals.
From a legal standpoint, deal terms are likely to change (along with bargaining power, which is shifting from sellers to buyers). We are likely to see virtually no locked-box deals for a while, a higher prevalence of earn-outs in transactions, and wider “material adverse change” (MAC) clauses.
Venture Capital – is Tech Overvalued?
In any crisis, technology companies are usually suspected of overvaluation. This is again the case, and although travel-related tech businesses have already been hit very hard, other technology companies are soaring still higher. Clearly, the world is in a phase-change transition, which is not just about COVID-19. The rise of automation and AI were trends that were apparent even before COVID-19 and which will go on undisturbed, as will the rise of new models of mobility and social interaction. The world of 2030 will be quite different from the world we live in now. Venture capital investors are casting a wide net in the hope of catching true game changers. Venture capital in CEE was already a very interesting space before COVID-19. Should we discount it as something that will not work in the new environment? Absolutely not. On the contrary, the crisis will bring around some of the most interesting opportunities we have ever seen in CEE in this area. The maturity of the ecosystem, the disruption of old models, the availability of public (EU) funds to support entrepreneurship and venture investing, and the fact that the crisis will turn more former employees into entrepreneurs, are strong reasons to hope that a new, bigger, wave of venture investments will start.
With a strong CEE platform, DLA Piper is well positioned to support private equity and venture investing in the region.
By Marian Dinu, Country Managing Partner, DLA Piper, Romania
This Article was originally published in Issue 7.6 of the CEE Legal Matters Magazine. If you would like to receive a hard copy of the magazine, you can subscribe here.