Following the Latvian M&A market quite often requires reading all the fine print in press releases to learn of what has happened some months ago already. Thus, only this week among the news about Hanzas Elektronika debt refinancing one could find a short comment revealing that one of the oldest private equity investments (dated November 2002) in Latvia had been quietly disposed of by selling back to the company’s founder, Mr Ilmars Osmanis.

Established in 1999, Hanzas Elektronika is a contract manufacturer of custom electronic systems, electronic components and printed circuit boards. Until recently it had been owned by Mr Ilmars Osmanis, BaltCap, one of the best known private equity funds in the Baltics, and two Swedish entities.

Hanzas Elektronika has made a tremendous journey in terms of growing its operations. To compare, in 2001, which preceded BaltCap’s investment year, it had sales of EUR 125 thousand, negative net profit and negative EBITDA. In 2013 the company reported net after-tax profit of EUR 692 thousand on sales of EUR 10.390 million. Its EBITDA for the year stood at EUR 1.596 million. The interest bearing liabilities of EUR 5.335 million amounted to 3.3x times EBITDA, being on the high side but still within the prudent limits of leverage.

According to public statements released only earlier this week, in August 2014 Mr Osmanis gained full control over the company as its sole shareholder. The press release also reported that the company has refinanced its bank loans totalling EUR 4.7 million with Citadele banka AS and that the bank has provided an additional EUR 1.5 million to finance the purchase of shares in the company.

Admittedly, this is very fragmented information and might not be sufficient to arrive at any firm conclusions. Apparently the company had reduced its bank borrowing from EUR 5.3 million to EUR 4.7 million before the transaction and the total bank loan, including refinancing and acquisition finance, now amounts to EUR 6.2 million. At 3.9x times EBITDA it comes quite close to the upper limits for senior loans but is not yet in the dangerous territory (in absence of more detailed information we have to assume that both bank loans are senior).

Assuming that the whole share purchase has been debt-financed, it would value 100% of the company’s equity at EUR 2 million (EUR 1.5 million for 75%). This would imply an enterprise value of EUR 6.7 million, or 4.2x times EBITDA and 0.64x times sales. On the other hand, the banks are usually reluctant to provide 100% of financing. The assumption that the transaction has been financed on a 50:50 basis by Mr Osmanis and the bank would value the equity at EUR 4 million, implying EV/EBITDA of 5.45x times or 0.84x times sales.

The above assumptions would establish the value corridor for BaltCap’ s 37.5% of shares at between EUR 750 thousand and EUR 1.5 million. Considering that BaltCap’s total investment, made in two tranches, amounted to c. EUR 1 million and that it had held to it since 2002, it seems very unlikely that the private equity investor had suffered a write-off here. Unless there are some other arrangements in place which we are not aware of at this stage and which could have boosted the investor returns, we are inclined to believe that the transaction has valued the business at slightly above 5.0x times its 2013 EBITDA.

In many respects this might become a fascinating case study worth closer attention as it raises a number of issues and questions that might be relevant to the private equity investment in Latvia in general, for instance:

• Hanzas Elektronika, a high-technology and high value-adding manufacturing and export-oriented company, is almost an illustration from any strategic development document for the Latvian economy, but it has been valued by the market (and one has to assume that BaltCap has been looking for the best deal) at a fairly low multiple. Why?
• Holding on to the investment for almost 12 years and seeing the company growing hundredfold does not necessary translate into spectacular returns for the private equity investor. Again, why?
• The pressure to sell because the Baltic SME Fund this investment has been made from is winding down and has to return money to investors might have forced BaltCap to exit not at the most optimal moment.
• Selling back to the company's founders after the end of investment might be considered fair in many respects but does not necessarily allow the private equity investor to achieve the best exit deal.

All the questions and issues notwithstanding, this definitely is an investment story one could be proud of. Well done!

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