Comment: On innovation and PE

Thinking differently about innovation can help drive value creation in private equity, says Fahrenheit 212’s Pete Maulik

Today’s private equity innovators will be tomorrow’s industry leaders.  With more than 2,000 private equity funds globally seeking about $750 billion, almost double the amount raised in the two previous years, and with an estimated $789 billion in dry powder waiting to be invested—finding a new lever of sustainable growth is the new imperative.

In today’s hyper-competitive environment, the traditional levers for adding value to portfolio companies are proving less effective at moving the value creation needle.  While some firms have increased their focus on topline growth and strategies such as marketing, expanded sales force and price optimisation, these efforts often deliver short-lived benefits.  

A cadre of firms are exploring how innovation can be a new source of alpha and are making it a part of their tool kits. Long thought to be an investment with a risky and uncertain payoff, innovation is being turned into a repeatable best practice that provides competitive advantage.   

While innovation is not new to private equity, what is new is thinking about innovation as a process with predictable pay-outs and risks that are mitigated. Some recent examples demonstrate that innovation can be incorporated in the private equity toolkit and can deliver big payoffs.

Earlier this-year, Apollo Global Management-backed Berry Plastics leveraged its proprietary manufacturing and design process to launch VersaLite, an insulated cup for hot and cold drinks that is fully recyclable and reduces the firm’s carbon footprint per pound of production by 10 percent.

Similarly, Kohlberg Kravis Roberts and The Carlyle Group’s innovative partnerships with the Environmental Defense Fund have resulted in a growing number of their portfolio companies adopting innovations that resulted in lower operating costs and elimination of tons of CO2 emissions and other wastes. 

So how can private equity groups systematise and institutionalise the innovation process – making it more predictable and less risky?  We see five critical steps:

Align funding with strategic focus. Begin by defining the strategic role the innovation will play within the portfolio company and then match the level of funding in relation to the corporate P&L.

Focus on Leveraging the Core Assets. To gain competitive defensibility, the innovation should involve a new way to harness the power of the company’s core asset.

Appoint a Champion. The innovation initiative requires total commitment, an experienced leader with skin in the game and support from the top.

Make it real. Distinctly define the What, Why, and How, to secure the necessary internal support and accelerate the path to market.

Be Agile. Great innovation happens when companies act like entrepreneurs and focus on launching, testing, and applying the lessons to adjust their innovation to market dynamics. 

Innovation can be a great and timely addition to the private equity tool box, particularly in a slow growth economy and where unlocking alpha is essential for retaining investors. Tomorrow’s winners will be those who do the best job at making the path from conceptualisation to commercialisation predictable and with fewer risks— and who institutionalise and systematise the process.

Pete Maulik is managing partner at innovation consultancy Fahrenheit 212.