May 17, 2013
Interviewed by: David Snow
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Brazil’s New Exit Opportunity

A veteran GP in Brazil explains how the country’s exchange for smaller listings, called the Bovespa Mais, is revolutionizing the capital markets and offering new exit opportunities to mid-market private equity firms. Interview with Alvaro Goncalves of Stratus Group.

A veteran GP in Brazil explains how the country’s exchange for smaller listings, called the Bovespa Mais, is revolutionizing the capital markets and offering new exit opportunities to mid-market private equity firms. Interview with Alvaro Goncalves of Stratus Group.

Brazil’s Middle Market: New Opportunities

A Privcap Conversation with Alvaro Gonçalves of Stratus Group

You say that the creation of Bovespa Mais is transformative for Brazilian businesses. What exactly is it?

Gonçalves: Bovespa Mais is a segment of listing at the Bovespa Exchange. And it should work as much as NASDAQ has worked for the United States or as much as the low-end market has worked for the London Stock Exchange as an access market. So, Bovespa Mais is a segment that’s supposed to become an access market for Brazilian mid-sized companies.

And why is that so important?

Gonçalves: I think the first important thing from this perspective is to be acquainted on how incipient private equity is in Brazil. Despite the whole hype of the last few years in fundraising, the big league LBOs and large funds being raised through Brazil, the investment activity is not that high. We have been running between 60 and 80 deal announced per annum, which is significantly low compared to other emerging countries. And the amount invested, the penetration of private equity is very low in the economy. The penetration in the M&A activity; the penetration as a percentage of GDP – many different dimensions. And we believe one of the reasons of that restriction, for having private equity better disseminated relates to the fact that Brazil is a mid-market country, is a mid-market economy primarily. The number of countries that are, for instance, in excess of $200 million in sales per annum is relatively low, even compared to similar economies. So, Brazil is a large economy composed of mid-sized companies that were kept aside from the huge fundraising process that took place in the last five years and from the capital markets, in general. We believe that we needed to bridge the gap between the actual footprint of the Brazilian economy, which is primarily mid market, and the source of capital. Sources of capital both in public and private equities have been constrained toward the larger companies. And we believe that the Bovespa Mais launch and the first PE-backed IPOS at Bovespa Mais are important landmarks that will actually re-channel the capital towards what Brazil has best to offer.

What impact will Bovespa Mais have on private equity specifically?

Gonçalves: Well, I expect this to change, from now on, dramatically for the better for private equity industry as a whole. First, because we’ll find the segment of Bovespa as an important source of second-round financing for the companies we invest. Not necessarily just for exiting. So, we believe that having an offering of shares at Bovespa Mais at some point in time after we invest and even if we hold our shares and work with the company, let the company get used to and familiarized with the market trends in a public market dynamics. And then, gradually, exit ourselves.

We believe that that’s going to be the trend not only for Bovespa Mais and for Brazil but I’ll say this is, most likely, the best sequence of steps for private equity to operate and benefit in emerging markets.

One of your portfolio companies was among the first PE-backed firms that wanted to go public. What was the process like? What was the outcome?

Gonçalves: First, we invested in a company in 2005 when the company was too small but growing fast. The company provides software for the financial sector, having the major banks operating in Brazil, both local banks and international banks, as clients. And the company grew through acquisitions. So, with our funds’ capital injections and also, all other investors like Brazil’s Development Bank, we funded acquisitions for this company to actually consolidate with a few others in the market. So, this company had governance since the beginning. Since our investment, we implemented a board, a board of independent directors. The company was pretty much disciplined through the years and following very good practices of governance. The company was ready and trained by private equity to go public.

And then, when we presented this company to the process of going public, one of our concerns was that company was not as known – as most companies that are set for IPO in Brazil usually are. So, we decided to do the listing before this offering, which is not a normal thing to do in the typical IPOs, but that was very important because while the company listed and became technically publicly listed, the market turned to the company. And a lot of attention was drawn by that step. Then, when we did the offering, there was a significant interest.

There were more than 1,000 bids in the IPO. The comparable first IPO in 2008 in that same sector had less than ten. There are 48 brokerage houses willing to join the offering, which was not consistent with the size of the offering. So, we had to challenge ourselves to decide what to do with so much brokerage houses willing to participate in the process. Probably, in an intention to learn and to be part of that important milestone for our market, there was an important interest from the asset management firms to actually participate in two important funds that operate in Brazil, equity funds took part of the offering, placing bids and also, an important degree of reference in the retail side. So, these brokerage houses brought all of the bids from the retail. So, it was a clearly successful offering process.

Were markets observers encouraged by the success of the deal? Do you expect it will encourage others to follow the same path?

Gonçalves: This was a very important achievement in all senses. Not only our achievement. We believe that the Bovespa was very happy with the results. Everyone at Bovespa actually was thrilled by what happened, the company itself, our investors, but also, other fund managers. I think there was a great deal of expectation of what was going to happen with this one because it may set the trend in the market or not. So, we were surprised by people that should be considered perhaps as competitors of ours.

Calling up and clearly supporting and waiting, somehow, anxious to see the results because that will open the way for them as well. So, we believe that overall, across the board, the feeling after this success was not kept for Stratus or for the company itself but I think was a market achievement. That’s why I believe that this is going to be setting a new trend in the Brazilian market.

The deal prompted good leads on other investments, correct?

Gonçalves: Yeah, that was very interesting because within a few days after the offering, we started getting calls from companies that we didn’t know before and consultants of companies that never been in touch, showing that they have the funds to actually invest and help this company to go public through a few years, patiently and intensively. And they want to show their companies. They want to bring their clients to us because of the consultants. So, we got about 50 unsolicited calls from people who we didn’t know before. Most of them from outside of Sao Paolo and Rio, groups that are really willing to go public or willing to prepare themselves or their companies to be better exposed to capital markets. And we believe that dormant feeling was kind of hidden there in the Brazilian entrepreneur spirit. And now, it’s being released.

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