Distinguishing yourself from other GPs via value creation

Hamilton Lane’s Brian Gildea discusses creating value to outperform peers in private equity.

Hamilton Lane managing director Brian Gildea tells Private Equity International that, in addition to deal-making skills, the operational, value creation factor is important for general partners to differentiate themselves from others. In an increasingly competitive private equity space, the extent to which it is engrained in fund managers’ investment process makes a difference.


How would you describe value creation in private equity?

There are two important skillsets that general partners should have. First is the deal skillset: their ability to source opportunities and structure deals. Second is the operational, value-add skillset. I would say the best managers are good at both of those things; they’re equally important.

At Hamilton Lane, we see a huge part of the private equity market, about 48 percent of all funds ever raised in the PE space. We start with the data and we have created tools to analyse the data to help us make better decisions. In our due diligence process, we substantiate what we do with that underlying data. When evaluating commitment to funds we dig deep into the GP’s historical value creation.

Most value creation in PE comes from revenue growth. The best managers have the expertise in not just understanding what’s going on in the industry, but also figuring out which tools to apply to which deals. When you drive the top-line growth and EBITDA growth, you create better businesses, which leads to multiple expansion. That’s also where you see value creation in PE coming from.

So how are fund managers applying value creation to their assets?

Managers are more disciplined because valuations are high; no one would argue against that. It’s forcing GPs to say, “OK, I’m not able to buy at a good price so I have to pay up for it. But if I’m going for it, I’d better make a strong business improvement plan.”

General partners are aggressively using leverage, taking advantage of cheap financing. While it helps with returns, it’s not a differentiator. You have to be willing to accept lower returns or be able to do something with the company that someone else can’t; the best managers are doing that, but not everyone is. The best managers are paying up in spots where they can do more with the business. The element of increased GP-to-GP transactions was viewed as negative, with people asking, “What more could the next PE owner do [to the asset being sold]?” But we’ve seen example after example of businesses going from one PE owner to another and still generating returns because the new manager is doing something else with it. Each of them brings a unique lens, a different group of operating partners.

It sounds like operations is a key factor in value creation.

GPs are trying to differentiate themselves to LPs. It used to be good enough if they did a bunch of good deals that went well and they could raise a larger fund the next time. Now, to differentiate themselves, GPs educate LPs on what the value-add is and are more forthcoming with information about the deals they’re working on, such as the financial metrics, recent business performance trends and operational changes.

GPs always had deal professionals, but the operational improvement team is very different than it was historically. The best [managers] in class embraced operating partners as part of their own and made the operational piece a key element, embedding it at the front of their investment decision-making process.

Operating partners are no longer a luxury; it’s a cost of business. It all comes down to how engrained they are in your process.