Exploring Success in Private Equity. Interview with Andrei Gemeneanu, Morphosis Capital

In an exclusive Business Review interview, we sit down with Andrei Gemeneanu, Co-Founder & Managing Partner at Morphosis Capital, a prominent private equity firm making waves in the Romanian investment landscape. Andrei Gemeneanu sheds light on Morphosis Capital’s innovative strategies and remarkable successes. From their distinctive approach to fund utilization to their extraordinary track record in exits and their outlook on the Romanian SME market, this conversation delves into the intricacies of private equity, providing valuable insights for investors and enthusiasts alike.

What is Morphosis Capital’s approach to utilizing the funds generated from successful exits? Can you elaborate on how these funds are allocated or reinvested?

As a private equity fund, we have the flexibility to choose between returning capital to our limited partners (LPs) or reinvesting it, a practice known as fund recycling, with our decision depending on the opportunities available at a certain time. Given the successful exits achieved by Morphosis Capital Fund I, we have chosen to distribute the capital back to our investors. This distribution has resulted in a DPI (Distributed to Paid-In capital) ratio of 0.35, which represents the proportion of funds returned to our investors. Basically, what this means is that out of the total committed capital of 50 million euros, a substantial amount has already been returned to them. This approach demonstrates our commitment to maintaining a favorable return ratio and is particularly valued by our investors in the current period of liquidity constraints.

In the current market context, what are the expectations from investors regarding the timing of exits? Is there a preference for seizing the right opportunity at a good price, or is there a focus on maximizing growth over a longer period?

In the current market landscape, investors hold nuanced expectations regarding exit timing in private equity. While the ideal scenario often involves seizing opportune moments for profitable exits, the emphasis has shifted to striking a balance between capitalizing on favorable pricing and fostering sustained growth over an extended timeframe. In the dynamic world of private equity, our performance is judged on the Internal Rate of Return (IRR).

However, recently, the concept of liquidity has grown more important. We have noticed a clear trend where institutional investors display a growing interest in seeking timely distributions from the funds they have invested in. This highlights a significant change towards prioritizing liquidity and capital realization, aligning with the current financial climate, and we are pleased to have successfully done so.

Could you share some insights into the returns Morphosis Capital has achieved from their previous deals? How do these returns compare to industry standards?

To date, Morphosis Capital Fund I has demonstrated an impressive track record with all three of its exits IRR exceeding 30%. This performance not only surpasses the industry benchmark but positions Morphosis in the top quartile at the European level, which is a testament to our strategic approach and meticulous deal selection process.

In the case of the two partial exits, involving Medima Health and EMI, the motivation for us has not been at all to cash out. Both transactions, finalized in already challenging contexts of 2022 and in 2023, had a significant cash-in component, amassing a combined sum of over 20 million euros capital that will be used for further development of these two businesses. In the case of Medima, this means further growing the geographical footprint, opening new clinics across Romania, and for EMI – bolt-on acquisitions in the region. Importantly, we remain active shareholders in both these companies, underscoring our belief in their potential for continued growth and further, even more significant upside in the future.

The 30% IRR (Internal Rate of Return) is often considered a significant benchmark in the investment world. Could you place this figure in context for us? How does it compare to the average return on investments in the industry?

A 30% IRR is a noteworthy benchmark in the investment realm, often representing an ambitious aspiration rather than a widespread standard in the industry. When considering European growth capital funds, such as Morphosis, these funds have achieved a 16.03% IRR since their inception. Furthermore, in the context of private equity fund returns, it’s interesting to note that since Morphosis was founded, global private equity funds have delivered an average IRR of 17.17%. Focusing specifically on European private equity funds, they have recorded an IRR of 15.85%. With an IRR of over 30% from its first three exits, this performance speaks to Morphosis Capital’s effective strategies and deep insights into market dynamics, enabling us to consistently deliver exceptional value to our investors while proactively managing risk.

Morphosis Capital seems to keep some companies in their portfolio for an extended period while exiting others relatively quickly. What factors determine the exit strategy’s length for a particular company?

At the core of our exit strategy lies the interest of our portfolio companies. An illustrative example of this principle can be seen in our only full exit so far, the sale of Dr. Leahu Dental Clinics to Regina Maria. The deciding factor for this transaction was the doubling of the business and its geographic footprint, achieved through our partnership with the founder. This milestone marked the perfect moment for the group to join the leading strategic player in private healthcare in Romania, a company such as Regina Maria, with like-minded values and patient-centric strategy.

What are the primary objectives and plans for Morphosis Capital’s second fund? Has the fundraising process for the new fund commenced, and if so, how is it progressing?

Our focus for Morphosis Capital’s second fund remains aligned with our successful investment strategy. In the three years since the inception of our first fund, we have deployed the largest part of the capital, all in proprietary deals, establishing our presence in the right market segment.

Looking ahead, our objectives for Fund II remain consistent with our original strategy. We are looking to invest tickets ranging from 7 to 15 million euros, directing these funds towards high-growth Romanian SMEs in sectors where we have already accumulated prior experience from the first fund while bringing a few new sectors such as consumer businesses and potentially retail.

An encouraging development has been the trust and confidence shown by our Fund I investors, who have decided to trust us again and join the capital structure in our Fund II. The European Investment Fund (EIF) remains a cornerstone investor, demonstrating substantial commitment to our endeavors.

Furthermore, we’re working towards securing the European Venture Capital Fund (EUVECA) passport for Fund II. This regulatory step will provide us with enhanced flexibility and access as we continue to navigate the investment landscape.

Given the current economic and market conditions, how has it impacted the fundraising process for the second fund? Is the current context helping or making it more challenging to raise capital?

One key factor contributing to this dynamic is the elongated holding periods and delayed exits experienced by the private equity funds at the European level. These delays have affected institutional LPs from realizing capital from existing investments, constraining their ability to allocate fresh capital to new fund opportunities.

Our regional context adds an additional layer of complexity. The CEE region faces a distinct set of challenges stemming from both macroeconomic factors and the geopolitical climate. This has led to leading regional funds in the CEE region postponing their fundraising efforts, further highlighting the complicated environment in which we operate.

Can you provide some insights into the feedback received from foreign investors regarding Romania’s SME market? How do foreigners perceive the opportunities in the Romanian market, and what key opportunities do they see?

Foreign investors are increasingly recognizing the vast growth potential of Romania’s SME market. The country’s untapped sectors and relatively lower market saturation compared to more mature economies present compelling opportunities for expansion and innovation. Additionally, Romania’s abundant pool of skilled and educated professionals enhances its attractiveness as an investment destination. Furthermore, sector-specific opportunities in a wide range of areas further bolster the appeal of Romania’s SME market, attracting foreign investors seeking to capitalize on emerging trends and contribute to the country’s economic development.

In your experience, what are the key factors that attract foreign investors to the Romanian SME market, and how does Morphosis Capital leverage these factors in its strategy?

Foreign investors are increasingly drawn to the Romanian SME market due to a combination of unique factors that create a compelling investment landscape. Romania is set to continue the grow fast, having caught up with Hungary in terms of GDP per capita and setting to overtake other countries from the region. Consequently, the market looks extremely promising, and Romania will remain the core of our strategy. At the same time, there is one important particularity related to Romania, which is the scale of the SME market in Romania, which is lagging behind and is currently around 4-5 times smaller compared to Poland, which has roughly twice Romania’s population. While the growth potential is undoubtedly present, the landscape is marked by significant fragmentation. As fund managers, our mission revolves around identifying those companies with a true competitive advantage and a proven business model that enables the local entrepreneurs to drive scale.

How does Morphosis Capital approach deal negotiation and structuring to ensure successful exits? Are there any unique strategies or techniques employed to achieve favorable outcomes for all parties involved?

At Morphosis Capital, our approach to deal negotiation and structuring is rooted in a combination of astute strategy, adaptability, and a commitment to promoting win-win outcomes. What’s particularly encouraging is the evolution we’ve witnessed in deal structuring within the Romanian landscape over the past three years, a shift that has been further accelerated by the challenges brought on by the COVID-19 pandemic.

As historical performance metrics became less reliable due to the rapidly changing landscape, both fund managers and investors, as well as company founders, adopted a more sophisticated approach, including hedging mechanisms, downside protection strategies, and founder upside to align the investor and the founder behind the long-term potential of the company and of the investment. This is a very promising sign for the local market, showing maturity and also allowing much more creative deal structuring, benefitting all parties involved.

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