News Column

2004 EOY Keynote Address: Financing the Next Demographic Wave

November 15, 2004

Marcos A. Rodriguez, Founder and Managing Member, Palladium Equity Partners, LLC

Good evening. Muy buenas noches. I was honored when Jesus Chavarria asked me to make tonight's keynote address and I am delighted to be here tonight. As you may know, Palladium is the largest Hispanic owned private equity fund in the country with over $500 million in committed equity capital. According to Hispanic Business, we ranked #5 in the Hispanic Business 500 with revenues in excess of $800 million and more than 8,000 employees in our six portfolio companies. Tonight's topic of discussion is financing the next demographic wave. The growth and prosperity of the U.S. Hispanic population is causing the most profound and fundamental changes in the national economic and political landscape since World War II. The entrepreneurs being honored this evening and the buzz, electricity and elegance of the audience here tonight are a clear manifestation of those changes. My goal for tonight's address is to provide the entrepreneurs in the room with an overview of financing options available to them, to discuss private equity in detail, and to provide some insight into what private equity firms and venture capitalists look for in potential investments. First and Foremost the demographic trends that Jesus, Juan and others have described tonight are incredibly powerful creators of wealth and disposable income. The data is real. The growth is real. The people are real. We are very real. We buy food for our growing families, we clothe and educate our children, we buy soap, cars, homes, healthcare and stocks. With projected growth in purchasing power in excess of 9% per annum, the U.S. Hispanic market presents investors with growth characteristics of "Emerging Markets" within the stable currency and political climate of the United States. The best of both worlds. This beneficial risk/reward profile has attracted billions of dollars of investment focused on this market from around the world. The confluence of the demographic trends and investment creates tremendous opportunity for entrepreneurs and middle market companies. Hispanic Business defines middle market companies as those businesses with sales between $5 and $50 million. My firm targets companies with revenues between $25 and $500 million, depending on the industry. At Palladium we have identified four principal themes for investing in the U.S. Hispanic Market. We look for investment opportunities across 4 general categories: 1. Companies targeting Hispanic youth and family 2. Underserved sectors such as financial services and healthcare 3. Culturally targeted products such as food and media 4. What may be the most exciting, the "Hispanization" of U.S. Society. The typical U.S. Hispanic is young and comes from a large family. Nearly 20% of all Americans under age 30 are Hispanic. Every other "new" American by birth or immigration is Hispanic. The population histogram on the left shows just how young the Hispanic population really is compared with the non-Hispanic population. These demographics are extremely appealing for retailers, banks, advertisers and consumer product companies because Hispanics out spend the Non-Hispanics on a per family basis. The flip side of the fact that Hispanics out spend non-Hispanics on consumer products, including food and clothing, is that the typical Hispanic family severely under spends on two critical areas: health care and financial services. We believe that real opportunity exists in both of these sectors as Hispanics begin to accumulate wealth. The Hispanic community is distinguished by language, culture, family and country or origin. Over 2/3rds of Hispanics are foreign born. Today 68% of U.S. Hispanics speak Spanish at home. We are readily defined by our culture, our language and the foods we eat. It is not a coincidence that more than 80% of private equity capital invested in the Hispanic market has been in Spanish language media, especially radio and television and food. The U.S. Hispanic population represents the third most populous Spanish speaking country in the world, behind Spain and Mexico and tied with Colombia. The influence of Hispanic culture and language has been accelerating in almost every aspect of the U.S. economy and politics. I believe that the opportunity to finance the Hispanization of U.S. society may be one of the most exciting opportunities for wealth creation in the next decade. So now you are saying, "Ok Marcos. That's wonderful. I get it. I agree. I have borrowed from my abuela and invested every penny I have into building my business. But I need capital - Real Money - to grow my business and to take my company to the next level. Where do I get that capital and at what cost?" Let's explore the pros and cons of three institutional sources of capital: banks, public markets and private equity. Let's start with the commercial banks. 64% of us are already doing business with the commercial banks. Banks have been actively courting our community for some time and I believe that trend will accelerate. Banks are terrific – the cost of capital is low – and everyone knows the rules of the road. The problems banks won't usually fiancé 100% of an acquisition or growth plans. They like to see real money, real cash equity in addition to sweat equity invested beneath them in the capital structure. If you can access the public markets, go for it. You can raise significant almost unlimited amounts of capital at attractive valuations. The biggest deterrent to the public markets is size. Typically, you need to have several hundred million dollars in revenue in order to go public. In addition, the cost of compliance and lack of confidentiality in a post Sarbanes-Oxley world needs to be considered. Everyone will know how much you make, how much you are worth, and how well your business is doing. Be assured that your competitors will read your public documents with great interest. Private equity is an interesting alternative financing source to consider. Private equity can fill the gaps between the banks and the public markets. But less than 6% of the Hispanic Business 500 use some form of private capital. Why do such few businesses use private equity? Better yet, what is private equity? Large Pension and retirement funds provide hundreds of millions of dollars to private equity firms to invest on their behalf. Typically we make investments in partnership with management. Unfortunately, private equity is not well understood as a source of capital. And unlike using a bank loan, an entrepreneur's ownership is diluted. Bringing in private equity capital, brings a "full" partner into the business. This can be difficult for an entrepreneur who is used to acting on her own. So with these drawbacks you may ask, "Marcos, what is so great about private equity?" Well, I believe you get a lot more benefit out of partnering with a private equity firm than just money. You get strategic and operational advice as well as access to a firm's network of executives and partners. We are a long term source of capital and partner with a management team anywhere from 3-10 years. Private equity typically does not require annual cash amortization or interest payments like a loan. We want to keep cash in the business and the equity of the entire company growing. We are comfortable dealing with family owned companies and companies too small to access the public markets. And unlike with the public markets, using private equity allows an entrepreneur to maintain the confidential nature of her information. There are no public documents for your competitors to read. As a final point, private equity is very flexible in terms of structure. Unlike a public equity offering, private equity offerings will allow owners a partial or full cash out in addition to supplying new capital. Now that I've gone over some pros and cons, let me give you more of an overview of private equity. There are many types of private equity. Venture Capital or Angel investors focus on earlier stage companies that may not yet be cash flow positive. They are willing to fund startups or just an idea with a business plan. Venture capitalists look to invest anywhere from $1 to $15 million. Then there is Private equity, or Leveraged Buyout. This is what Palladium does. We look to invest $15 to $50 million or more in any one investment. We target companies with annual revenues between $25 and $500 million, based in North America. We will also look at smaller companies in certain circumstances. We typically focus on cash flow positive businesses and on family businesses facing liquidity or generational issues. We allow management a great deal of autonomy to make decisions and provide guidance through the Board of Directors. Finally, many private equity firms like Palladium., maintain a network of operating executives, that partners can call upon in order to provide strategic and operational guidance. Please note that, VC and Private equity are not strictly defined. There is a wide range of firms that look at larger or smaller sized companies. There are many qualities to an attractive private equity investment. When targeting new investments, I look for company specific factors such as: 1. Market leading position. 2. Attractive competitive dynamics. 3. Compelling industry characteristics. 4. Demonstrated financial success. 5. A motivated management team. We also look for opportunities where we can effect an improvement or help growth by: 1. Drawing on knowledge of an industry. 2. Investing with experienced operating partners. 3. Exploiting new growth opportunities. 4. Uncovering potential for cost savings. Palladium's partners have been investing in private equity for over 15 years. We review 100 to 200 potential investments per year and will close on 2 or 3. In today's market we see the most opportunity in companies that are selling to U.S. Hispanics. So what does a typical private equity financing look like? Let me walk through the steps in a private equity funding process. On an ongoing basis, we source deals through our operating executives or by entrepreneurs contacting us directly Over the course of a few days we have discussions with an entrepreneur about her business and her goals. We want to determine the key drivers of growth and value creation, assess the risks of the business and opportunities for improvement. Also, we want to determine the amount of capital the entrepreneur will need to grow. Shortly after meeting with the entrepreneur, if we want to proceed, the private equity firm will issue a letter of intent to acquire or finance the business. In the LOI the private equity firm will define the structure of the investment and the value we place on the business. The private equity firm will also seek an exclusivity period during which it can continue its diligence and examination of the business. Once the entrepreneur accepts the LOI we move into the diligence and documentation phase. This stage takes anywhere from 1 to 3 months. Due diligence is a more formal evaluation of the business using accountants, lawyers, and other business consultants. While due diligence is going on, we also work on a more formal strategic plan with management and negotiate all agreements. We help establish roles for senior executives and decide on a Board of Directors. The private equity firm is also raising debt financing in this period, if appropriate. If all goes well, diligence completed, purchase agreements finalized and financing in place, we can close and fund the business within a few months from the time we first spoke. Post closing the private equity firm and the entrepreneur are partners for 3-10 years. The entrepreneur manages the business and the private equity firm provides guidance on financial, strategic and M&A issues. The CEO and managers are always free to call us for advice. As the company grows, in several years the private equity firm will begin to explore strategic alternatives such as IPO, merger or sale. Now that you know what private equity is, how do you get some funding for your Company? I have some advice. Develop a well researched, thoughtful and attainable business plan that demonstrates a clear path to growth and value creation. As an Investor, I rely heavily upon such a plan to make investment decisions, set valuation parameters, and seek third party financing. Plan must originate with the management team and set forth the anticipated series of steps for achieving success over the life of an investment. Maintain reasonable valuation expectations. Most private equity investors want managers/owners to retain significant equity stake going forward. Private equity capital and strategic guidance should help entrepreneur create value. Assemble a strong management team or be willing to supplement your team. My final bit of advice is to approach private equity firms with experience in the industry in which you operate. So what are the key takeaways? 1. The growth in the U.S. Hispanic Market is transforming the economic landscape of this country. 2. Investors from L.A. to Madrid see this market as the best of both worlds: Emerging market growth prospects with U.S. country and currency risk. 3. As entrepreneurs, you have several choices of financing sources to achieve your goals. 4. As a participant in the private equity industry for more than 15 years and Managing Partner of the largest Latino owned private equity firm in the country. I want you to know that there is an entire industry of investors who are searching for the right way to meet you, to build your companies and to help you become multi-millionaires by investing in our communities. Senores y Senoras, that is the American dream - With a Latin heart and a Latin beat. Muchissimas gracias y muy buenas noches.

Inside the EOY 2004:Hispanic Business CEO Roundtable List of ParticipantsBiographies of EOY ParticipantsEOY Winners, Past and Present


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