Private Equity Firms All Want the Same Thing: British Companies

LONDON — It began as a market stall in West Yorkshire, selling eggs and butter just before the turn of the 20th century.

Today that market stall is Morrisons, Britain’s fourth-largest supermarket chain, with nearly 500 stores and the prize in a 7 billion-pound ($9.6 billion) bidding war between American private equity groups.

It is a financial drama that is playing out almost weekly in Britain: A domestic company is courted and snapped up by, most likely, private equity investors awash with cash. Global investment companies have $1.3 trillion in dry powder (industry parlance for the unallocated capital), according to PitchBook, and they are eager to pluck bargains on British shores, where company valuations have been depressed by years of Brexit uncertainty and then disrupted by the pandemic.

Already this year, 39 bids to take British companies private — just two shy of the total for 2020 — have been completed or proposed, half of them by private equity firms, according to Dealogic.

“This year it’s all been unleashed,” said Richard Buxton, a fund manager at Jupiter Asset Management who has been investing in British stocks since the late 1980s.

Among the deals: Blackstone picked up St. Modwen, a property company, and Signature Aviation, a private jet services business. KKR bought John Laing, an infrastructure firm. Carlyle’s bid for Vectura, an inhaler maker, came up short of one from Philip Morris, the giant tobacco company, to the chagrin of health campaigners.

Blackstone, the world’s largest private equity firm, is bulking up in London, where it has more than 400 employees. Despite Brexit, it still sees Britain as a gateway to Europe and has invested nearly $20 billion in the country.

“There is no shortage of opportunity” in Britain, said Lionel Assant, Blackstone’s head of European private equity.

All this activity has raised concerns among some lawmakers who fear that too many British brands will fall victim to new owners willing to sell off assets.

After the first reports that Morrisons was the target of a bid by New York-based Clayton, Dubilier & Rice, members of the Labour Party in Parliament wanted to know what could be done to protect a critical food supplier and its nearly 120,000 employees from the potentially harsher consequences of private equity ownership. Fears that Morrisons would be stripped of its assets and laden with debt, and its staff fired, quickly grew.

More serious alarm bells have been raised about what’s happening in the defense industry, where foreign investors — corporate and private equity — are trying to buy British companies that work with the government. Two Ohio firms are jostling for Meggitt, which supplies parts for military planes and weapons systems. In early August, the British government said it was taking an “active interest” in the potential takeover.

Two weeks later, the British business secretary, Kwasi Kwarteng, ordered the government’s competition watchdog to investigate a bid for Ultra Electronics, a British defense firm that supplies the Royal Navy, on national security grounds. The bid was by Cobham, a British firm that the American private equity company Advent took over in early 2020 and subsequently broke up.

“The UK is open for business, however foreign investment must not threaten our national security,” Mr. Kwarteng wrote on Twitter.

What makes British companies so appealing is their price. The price-to-earnings ratio, a measure of valuation, of the FTSE 100 index on the London Stock Exchange is far lower than that of the S&P 500. Returns on the index have lagged for years. In the past five years, the total return that investors got from the FTSE 100 was about 26 percent, compared with 125 percent for the S&P 500, according to Bloomberg data. And the British pound still hasn’t fully recovered from its post-Brexit drop.

The most common answer for why British stocks are cheap, and therefore vulnerable to takeovers, is that there are just too few technology stocks.

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Tech sectors, and industries that are being digitized, are where much of the structural growth in global markets has come from in recent years, said Caroline Simmons, the U.K. chief investment officer at UBS Global Wealth Management.

“We don’t have a great amount of that in the U.K.,” she said.

Instead, indexes like the FTSE 100 rely heavily on companies in languishing industries that many investors are racing away from: traditional retailers, crisis-scarred banks, and mining and oil companies.

It doesn’t help that Britons are already wary of private equity, having watched some of the country’s most popular restaurant chains and retailers be gobbled up over the past decade. Debenhams is a cautionary tale. The chain of department stores, with a history that stretches back two and a half centuries, shut its doors for good in May. While the pandemic and the growth of online shopping may have been the ultimate reasons for the demise, some blame the three American private equity funds that owned Debenhams for three years starting in 2003 and saddled it with more than £1 billion in debt.

In the case of Morrisons, major British investors quickly lined up in July to oppose the initial deal that the company’s board said it was ready to accept — a £6.3 billion offer from a group of investors led by Fortress, a SoftBank-backed private equity firm. It had already rejected the first bid by Clayton, Dubilier & Rice.

What agitated investors and politicians was the worry that Morrisons would be sold too cheaply. Unusual for a supermarket chain, Morrisons owns the vast majority of its stores, produces much of the food it sells, has tight control over its supply chain and even owns its meat processing plants. The assets on Morrisons’ balance sheet were worth more than its value on the stock market, sparking accusations that British investors routinely undervalue companies.

Among the unhappy shareholders was Rupert Krefting, head of corporate finance and stewardship at M&G, which manages £370 billion and owns just over 1 percent of the company’s shares. He said the Fortress offer didn’t represent the “true value” of Morrisons.

The Fortress group increased its offer, and then Clayton, Dubilier & Rice returned with an even higher offer of £7 billion, 63 percent above Morrisons’ market value before its first rejected offer two months ago.

“We’re heading in the right direction,” Mr. Krefting said after the latest offer. Shareholders are expected to vote on the deal in October.

If a Morrisons deal is approved, it will be just the latest in a British trend. Late last year, lawmakers commissioned a report into the declining number of public companies. In 2019, 2,026 were listed in Britain, down from a peak of 2,913 in 2006, according to the report, which was written by Gbenga Ibikunle, a professor at the University of Edinburgh Business School. While the drop is not as steep as in the United States, private equity has played a critical role, Mr. Ibikunle said.

Investors are “asking for significant returns, and what we are seeing, perhaps because of the cultural fit between the U.K. and the U.S., is a lot of the P.E. money from the U.S. is finding homes in the U.K.,” Mr. Ibikunle said.

The British government has been trying to increase listings in London, especially to attract tech companies. Proposals include allowing companies with dual-class share structures — which can give founders greater control — into the premium section of the stock market so they could be included in benchmark indexes. There has been some success: Companies listing this year include the food delivery business Deliveroo; Darktrace, an artificial intelligence company; and Trustpilot, a consumer reviews website.

Still, the boom in private takeovers has put investors in public equities on guard for what company might be next.

As American investors battle it out for Morrisons, Britain’s second-largest supermarket chain, Sainsbury’s, last week suddenly became the center of speculation that it could be the next private equity takeover target.

On the first trading day after the news reports, its share price jumped as much as 16 percent.

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