How do PE firms increase the value of portfolio companies?
In preparation for a summer internship interview, I've been doing some research on portfolio company value creation and I've come across the following strategies:
Buy-and-build - exploiting multiple arbitrage by using the portfolio company to acquire more firms
Operational engineering - cutting costs, changing pricing strategy etc.
Governance engineering - implementing PE operating executives / bringing in new management
Is the above accurate? Are there other strategies that I should be aware of?
Any help you can give would be greatly appreciated :)
yeah, i would be aware of the one where they destroy value. pretty big one (~100% of the time), can't believe you missed it
Yes, that's a pretty good summary.
Not sure you want to mention it but also through multiple expansion. As the portcos grow, they capture greater % of market share. So in short, if you buy a company doing 100mm in sales and scale it 300mm in scale, it will command a higher premium. Therefore, prospective buyers will assign a higher multiple to a company's EBITDA in their valuation, which is really how most PE funds hit their returns.
PE funds want to act as though they revolutionize the companies they acquire, but the truth is they rarely do. In the latest PE report (I think Pitchbook published it) examining 250+ funds of all sizes, roughly 10% of MOIC was driven by sales growth (scaling the business through capex investments and new customer sourcing), 5% through margin improvement (cost cutting and pricing strategy optimization that you mentioned), and the remaining 85% was through multiple expansion.
With that said, PE funds dont want to hear this, because it to some extent implies they didnt really transform the business.
I think the points you listed are perfect. I guess you could add the following too:
1. Cost Synergies - as you buy a platform acquisition and acquire smaller companies (rollups) you can leverage the platform's SG&A staff (IT / sales / engineering) to reduce Opex costs for the newly acquired rollups. Therefore, as the platform company grows rollups you realize operating leverage.
2. Revenue Synergies - as you acquire different rollups for a platform, you are able to realize revenue synergies through cross-selling to the different customers each individual company has access to. Additionally, if you are in say manufacturing, you would potentially be able to develop new products and increase your portfolio of products, further juicing sales for future periods.
Note: I may sound salty by saying PE funds dont meaningfully transform the companies they acquire, but I mean no disrespect. Corp Dev is the same way, rarely do buyers truly revolutionize the companies they acquire. It does happen, but it is not the norm.
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