Challenges and Opportunities for Search Funds
By: Fernanda Elena Campos Irigoyen
Search Funds have been at a crossroads in recent years, amid a challenging macroeconomic landscape. At Sapiens Capital, we recognize the importance of understanding how global and national economic trends can affect our operations and investment decisions.
One of the main challenges facing Search Funds today is the high global interest rates, driven by central bank measures to address inflation. This exceptional increase in interest rates can have a significant impact on the feasibility and profitability of acquisitions made by these funds.
Search Funds, in their quest for acquisitions, often rely on debt to finance their operations, sometimes up to 60% of the total value. With rising interest rates, borrowing costs increase, thereby reducing the internal rate of return (IRR) of the investment. This situation has diminished the attractiveness of investing in these types of funds.
However, despite these challenges, Search Funds have risk mitigation mechanisms that make them relatively safe investments even in times of economic uncertainty. These mechanisms include solid search criteria, such as high EBITDA margins, strong free cash flow generation, recurring revenues, low requirements for investment in fixed assets, and a diversified customer base.
Additionally, amid this challenging landscape, an interesting opportunity arises: nearshoring. In countries like Mexico, both domestic and foreign investment, particularly from US and Asian companies, in local manufacturing and production presents an attractive opportunity. This is due to the growing trend of reducing dependence on China as the main manufacturing hub, partly due to concerns about geopolitical volatility and rising labor costs.
Nearshoring offers significant advantages, such as lower labor costs compared to the United States and a strategic geographical location that facilitates logistics and reduces delivery times. Furthermore, close proximity to the US market allows for a quicker response to market demands.
According to the Boston Consulting Group, unlike other countries, the transit times from various ports in Mexico are reduced by more than 50%, making Mexico one of the most favorable points for international trade. For this reason, according to the IDB, nearshoring could add USD 35.3 billion annually in additional exports from Mexico in the short and medium term.
In conclusion, while high interest rates pose a challenge for Search Funds, there are also opportunities to capitalize on. Nearshoring emerges as an attractive option that can help mitigate some of the risks associated with current economic conditions, while offering additional benefits in terms of operational efficiency and access to key markets.
At Sapiens Capital, we want to talk about your legacy and that of your company. We are a Search Fund seeking opportunities to collaborate and grow together. Contact us!
