Innova Capital’s senior partners Krzysztof Kulig, Leszek Muzyczyszyn, and Andrzej Bartos speak with Real Deals about the firm’s recently concluded succession process, the continued economic health of the CEE region, and key deals from the past year.

Innova Capital had a very successful and busy year in 2020, despite the global pandemic. What was the secret to your success?

Krzysztof Kulig: 2020 was a really strange year for all of us, but contrary to what was happening in general, it was quite a successful year for Innova Capital. We completed three exits from Innova/5 and we also completed three new transactions. We cannot forget that private equity is a business that rewards continuity, so a lot of work we finalised in 2020 was a result of our efforts and work in 2019 and many years before that, especially when it comes to making companies ready for exits.

All three businesses that we exited had been in our portfolio for four to five years and we had done an enormous amount of work to improve the Ebitda of each. It was very rewarding for us that these companies were able to complete successful exits in 2020, despite the fact that there was so much uncertainty globally and in the M&A market.

Andrzej Bartos: Looking at our portfolio overall, before governments started introducing formal lockdowns, we had already instructed all of our companies to put together contingency plans, introduce weekly reporting of both actions and performance, and as a result, by the summer, our portfolio companies were fairly stable. The quick reaction of Innova, combined with the quality of the management teams, were critical factors to ensure that despite these challenging times, we were able to achieve the majority of our portfolio objectives for last year.

The three exit transactions that we signed were in building materials, logistics and the financial services/ fintech sector. The first two sectors could be viewed as cyclical in nature, but in reality, our companies managed to face market challenges well thanks to the strength of their business models and also an excellent response by their management teams.

What types of deals did Innova enter into in 2020? And, is there an investment that you were most proud of?

Leszek Muzyczyszyn: I think we’re immensely proud of all of them. We are quite careful about how we construct our portfolio and, for us, diversification is very important. As mentioned, our portfolio has withstood the crisis quite well and this was in large part possible because it has been well-diversified.

The three recent deals complemented the existing portfolio diversification even further, in that they’re all very different. One of the three, Bielenda Cosmetics, was in the consumer goods sector in skincare cosmetics. This was a consolidation play coupled with a founder succession, which is a signature transaction type for us in Poland. It is a typical example of a family-owned business that has very successfully gone through 30 years to the point where the founders were ready to expand and consolidate the sector, and to share the business with us as partners. As part of the transaction, we also funded the acquisition of another complementary business to add on to Bielenda, to build in some early synergies.

Bartos: Another of the three investments was in a company called STX Next, which is a next-generation software house, exporting IT contractors to the US and UK. Its operating model was not challenged by Covid, and after a slowdown in the spring, the business still managed to conclude the year with robust growth and strong prospects for the year ahead. This transaction is another founder succession deal and, in this case, we bought a significant majority stake, with the founder retaining minority equity and continuing in his role as a CEO.

Kulig: The final business of the three is from the transaction processing/ fintech sector. We wanted to remain investors in this sector following the successes of our previous deals. The deal was for a company based in Romania, which offers services to merchants connected to different types of cash and electronic payments. Looking forward, we want to build a larger scale business focused on small merchants. This transaction is awaiting AMO approvals and will hopefully be completed by the end of March 2021.

Bartos: The strategy that we’ve had over the last five years has proven to be the right one, and we will continue with the two main pillars of our business: founder succession and consolidation, and industry sector specialisation. All three deals that we did in 2020 were in sectors where we had a lot of earlier experience. We have completed six deals in the electronic payments space and several in technology and consumer goods in previous years. These are the sectors that we know extremely well and it gave us a lot of confidence in deal making. Especially in times of uncertainty, our objective was to do what we are best at, and this was achieved through continuing with the types of transactions and sectors that we have a lot of experience in.

While we are still in uncertain times, how will you manage/ navigate fundraising going forward?

Kulig: We have almost completely deployed our sixth fund, so we will have to start fundraising soon for our seventh fund. It’s hard to say how the fundraising process is going to play out. It’s definitely going to be a new experience, with less travel and more online meetings, and at this point, we don’t know how efficient that will be. On the one hand, it can be much harder to sell your fund when you’re not physically in front of the investors, but on the other hand, it could be more efficient as you can save time on travel and have more meetings.

The last stage of Innova’s succession took place in 2020. What changed at Innova after the succession? Can you tell us more about this process?

Kulig: 2020 was also very significant for us as we completed the loop of succession within our business. It’s been a very well-planned process; we started in 2006, when we first had meetings to discuss how to make sure that Innova would survive as a franchise beyond the original founders and how it will continue to exceed the three of us.

It was a gradual process and it meant that the Polish partners initially had 50 per cent of the business and the founders were gradually increasing our stake and involvement in the company. We actually started running the business operationally much earlier than in 2020. The original founders haven’t done deals for around 10 years. The year 2020 was the completion year, where the remaining stakes of the founders were transferred to the three of us, giving us 100 per cent ownership of the company. Both founders have remained on the investment committee, because we believe that we should maintain the benefit of their experience and insights; but 2020 was the year of the finalisation of the agreement.

Muzyczyszyn: It’s a process that’s never quite over because we want to have an evergreen structure, so sometime down the road, I’m sure that the next generation will start knocking on our doors to make room for themselves. Credit goes to the initial architects of this structure who enabled the rolling ownership adjustment process.

Kulig: The succession point has been quite a challenge for many GPs and lots of firms do not survive that. We are one of the very few in Central Europe that successfully underwent this process, and there are still some firms that have it ahead of them.

Ultimately, you can deal with the succession challenge in two ways – you can start dealing with it proactively or you don’t do anything. Where firms are scared to act, they still have the founders owning the economics of the firm, while they no longer hold critical roles for the business. Our succession structure has meant that the carry and the economic interest in the GP lies with the people who actually work in the company every day.

Muzyczyszyn: This strategy is also supplemented by the belief we have that it’s better to hire people into the organisation at mid-level and then help them grow within the firm. This builds cohesion, coherence, shared values, and perspectives. Over time, all of this makes the succession much more manageable, as there isn’t much concern about an unexpected clash of values, or fundamental views, later on.

How does the PE sector in the CEE region differ from the rest of Europe?

Bartos: There are a number of features that distinguish CEE from other regions. Firstly, our economies have continuously enjoyed premium growth and across the cycle, regional GDP has exceeded “old” Europe’s GDP growth. Moreover, over the last 15 years, the region has more than trebled its GDP, which is an outstanding result. So, while we are not growing as fast as some of the more exotic emerging markets, we definitely enjoy premium growth versus Europe overall.

The second feature is that this market is much less penetrated by private equity, with fewer players, meaning that we are still able to buy good companies in non-competitive processes. In fact, if you look at our Innova/6 portfolio, none of the businesses were acquired via a direct competitive auction process. Many of our transactions achieved exclusivity from the get-go and this can usually lead to reasonable pricing.

The third reason why we’re very optimistic about private equity in the CEE is because this region is extremely well-positioned to take advantage of the growth in digitalisation. We have a very well-educated workforce, we have relatively modern digital infrastructure, as it was built relatively late compared to other markets, so we have been able to leapfrog a stage or two in digital development. For example, in payments, CEE moved straight from cash to digital payments, completely bypassing paper cheques, which were omnipresent in Western Europe for many years.

Where are significant areas of growth and markets to watch this year? What is your perspective on prospects in Poland and beyond?

Muzyczyszyn: For some time now, we have held the belief that purchasing power is going to go up in the region as consumers continue to get richer. This has driven a number of sectors and business models that are ultimately underpinned by the purchasing power of households. Growth in consumer goods and services is an obvious direct effect, but this has also contributed to e-commerce, to explosive growth in payments, etc.

Additionally, in terms of consumer services, there has been the adoption of new consumer behaviours. Consumers have started looking into healthcare much more, focusing increasingly on things like education and professional services, as well as leisure. This has all been driven by the one fundamental underlying factor – growth in purchasing power – which should continue for years to come.

Bartos: In the industrial sector, growth has mainly been driven by exports. After initially catching up with local demand, many companies now also focus mostly on export markets, taking advantage of comparable technological competences with more attractive labour costs. At the same time, a very well-educated workforce has enabled CEE companies to compete on Western European markets.

Finally, what are Innova’s goals for the year and going forward?

Kulig: A priority for us this year and next year will be fundraising for Innova/7. We will also spend a lot of time on our existing portfolio of eight companies and we plan to add at least another two new investments to Innova/6. This will be our main focus for at least the next two years.

We plan to continue our focus on ESG, which has been a very important area for us – we always seek to align our practices and portfolio processes to best reflect our firm’s values. We believe this will also be an important factor by which LPs will evaluate GPs. We strive to be “thought and action leaders” in ESG in our region