In Spite of $2B Tally, 3i Pursues Middle Market –

In the future, 1999 may be remembered as the year when the European private equity pendulum swung away from the mega-deal and toward the middle market.

Deterred by brutal levels of competition and the spectre of diminishing returns from larger buyouts, private equity fund managers and institutional investors alike are evincing an increased appetite for vehicles that target the middle-market.

3i’s 3i Eurofund III, which already has closed on euro 1.8 billion ($1.86 billion) and is expected to reach the euro 2 billion mark, is certainly comparable to the mega-funds in terms of size. However, the vehicle will focus exclusively on the European middle market, which 3i now defines as transactions valued at between euro 10 million and euro 350 million.

Narrowing Focus to Target Buyouts

Fund III-which includes a minimum investment level of euro 5 million, higher than previous 3i efforts-will include development capital investments, but will focus more strongly on buyouts than either of its predecessors. The reason for this, according to Paul Waller, 3i’s director of fund management, is to avoid the over-diversification that could arise because of the group’s rapidly increasing activity levels in continental Europe-3i deployed GBP241 million in continental Europe in the year ended March 1999, double the previous year’s figure. The group will continue to undertake smaller continental investments, but will finance these solely off its own balance sheet, as in the U.K., rather than through its private equity partnerships.

3i, which as usual is contributing half the fund’s capital, originally set out to raise approximately euro 1 billion for Fund III. However, an average commitment of more than euro 60 million from the third-party investors swelled the fund to almost double its projected total.

As a result, 3i has agreed that Fund III’s investment approach also will extend to U.K. middle-market deals once the group’s current GBP1.3 billion U.K. vehicle reaches full investment-which likely will occur in the next 18 months.

In the future, Waller said his group likely will stick with a pan-European model for its middle-market investments, rather than raising separate dedicated vehicles for the continent and the U.K.

The firm garnered the majority of commitments to Fund III from existing 3i limited partners; roughly equal amounts were drawn from investors in the U.K., continental Europe and the U.S.; sources in Asia also committed a small amount of capital to the close.

Two new investors also are participating in the fund-one, a U.S. group, is a new entrant to the private equity market, while the other is an established continental European player. Waller declined to name any of the investors that signed on.

Fund II, which raised a total of ecu 650 million, has completed approximately 140 deals since 1997. France has received 30% of the capital that has been deployed from Fund II, while Germany and Spain each absorbed 27%-a figure that reflects a dramatic increase in 3i’s activity in Spain. The balance of the fund’s capital has been split between Italy and the Benelux markets.

For the remainder of 1999, 3i will concentrate its fund-raising efforts on the 3i Kogin Japan offering, which Waller said he anticipates will be drawn largely from the group’s existing investor base. Next year, 3i plans to launch its first dedicated technology fund, with a global investment mandate.