Private equity shapes up

Private equity and real estate firms are swooping into the finest sector, and making big profits.

When Duke Street Capital carried out a refinancing last month of Esporta, the UK gym chain it acquired in July 2002, there was little doubt as to what it planned to do next. The refinancing released an extra £120 million ($210 million; €176 million) in cash and provided a £300 million debt facility, beefing up the company's finances before its planned takeover of the Next Generation and David Lloyd Health Club gym chains.

The ambitious plan is a sign of the times—and of the value private equity firms see in a operating companies with significant real estate assets. The UK health and fitness club sector has seen a huge amount of private equity activity in recent years. In 2003, London private equity house Cinven backed the £204 million public-to-private takeover of UK and European operator Fitness First. That same year, mid-market UK firm Bridgepoint invested £307 million in the MBO of UK fitness club operator Holmes Place. This past October, Richard Branson's Virgin Group bought back the 55 percent stake in Virgin Active it sold to Bridgepoint in 2002, enabling Bridgepoint to triple its investment. And just last month MidOcean Partners, which bought UK health club chain LA Fitness last April, went on to acquire rival UK gym operator Crown Sports for £38.4 million.

The interest in fitness centers hasn't been confined to the United Kingdom. In December North Castle Partners and JW Childs Associates sold their stakes in New York-based fitness operator Equinox to real estate developer The Related Companies. The $505 million deal yielded a return of three times the equity investors' initial capital

The flurry of private equity attention can be attributed to a changing attitude in the public markets. The fitness sector has seen gym membership level out following a boom in membership in the mid- to late-1990s, and public market investors are looking to sell. But despite the public market trepidation, private equity firms like North Castle are seeing solid growth in the sector.

“When we invested in [Equinox] in 2000 we had identified the fitness club space as a highly fragmented industry with the potential for incredible growth,” said Douglas Lehrman, managing director at North Castle Partners.

The thesis behind North Castle's investment centered around the aging “baby boomer” population, a demographic trend, it seems, that extends to both sides of the Atlantic.