With numerous large cap private equity transactions falling through in the past year, the industry’s apparent downturn has been brought to the center of attention. However, a new thought piece released by Arthur D. Little presents a framework to help private equity businesses outperform the competition during an economic downturn. The review, “Private Equity Value Creation,” identifies four guiding principles for operating in the increasingly risk-prone financial markets with solutions that are not cost prohibitive to implement and can be acted upon regardless of a firm’s size.
The private equity industry has survived cyclical downturns, recessions and even double digit interest rates over the last three decades. Because such market conditions often have a detrimental impact on private equity deal-flow, traditionally during downturns well run firms have been able to differentiate themselves by drawing on highly structured value-creation programs. Arthur D. Little’s latest thought piece outlines the techniques used by these successful firms to ensure they survive a downturn by continuing to create value for investors and their portfolio companies.
Arthur D. Little’s review urges private equity companies in the current market to conduct rigorous and comprehensive Pre-Deal Due Diligence Program. Utilizing the following four criteria, investment managers can most accurately assess the value target portfolio companies will yield before taking new investments forward in a weakening market:
* Industry attractiveness understand the expected market potential and focus on market projections over the duration of the investment’s expected holding period* Company positioning from primary sources understand the target’s market positioning through first-hand interviews with suppliers, customers, industry experts and management* Value creation opportunities pre-close develop an initial business plan including in-depth operational improvement strategies* Condition-driven exit strategies ensure a plan to exit investment in the portfolio company that reflected predicted market conditions at that time
“Our review has shown that an effective private equity firm focuses on its core to outperform its competition in four realms adherence to investment strategy, oversight of portfolio company management, effective utilization of outside resources and reinvestment in portfolio companies,” says Petter Kilefors, global leader of Arthur D. Little’s private equity practice. “Our analysis is based on our first hand experience working with private equity firms, in-depth conversations and interviews with executives in the field.”
According to Arthur D. Little’s review, firms who continue to operate under these principles will add value to their portfolio companies on an ongoing basis and will weather temporary setbacks in the credit market. At the same time, the non-focused businesses that do not abide by their internal assessment methodologies will be exposed as underperformers.
The full report is available on Arthur D. Little’s website.