For over a decade, Private Equity International’s Operational Excellence Awards have celebrated outstanding examples of value creation across a range of geographies and sectors. We asked three long-serving members of the judging panel to share the insights they have gleaned from poring over these case studies, and to give their take on the continued evolution of managers’ value-creation strategies.
What are the most significant ways in which the private equity value-creation playbook has evolved in the past 21 years?
Veronique Lafon-Vinais: We have seen in the past 21 years an extremely favourable environment for the PE industry. Fast technology innovation has created many new investment opportunities, and the increased adoption of technology and data analytics has improved operating efficiencies. The long period of low interest rates has allowed market participants to use leverage very effectively and to benefit from flows of capital looking to improve yields by investing in alternatives. This period is now ending, so the ability of major players to effectively improve operating efficiency will be more important than ever.
Joncarlo Mark: There has been a massive movement towards the use of internal and external resources to assist portfolio companies and their management teams with operational improvements. This has been driven by the need to create value beyond simply ‘buy low, use leverage and exit with a higher sale multiple’. PE firms have developed entire teams that help in a wide range of portfolio company functions. In addition to traditional areas of support, newer areas of focus include helping companies develop more effective HR functions and assisting companies with digital transformation.
Operating teams’ level of importance and compensation has also evolved. Instead of merely boasting retired executives as operating advisers, many operating professionals are full-time members of staff, with carry granted to them across a PE firm’s funds.
Antoon Schneider: As private equity firms have become more interventionist post-acquisition, they have broadened the value-creation playbook to include topics such as digital transformation and artificial intelligence. Leading firms are also focusing on building capabilities in these and other areas, rather than only pursuing one-off benefits.
Have you seen any changes in LP attitudes towards managers’ value-creation strategies over the same period?
VLF: As previously mentioned, the importance of technology to value creation cannot be underestimated. The ability to scale businesses with thoughtful acquisitions has also been a recurrent theme of successful value creation in the cases I have looked at in PEI’s Operational Excellence Awards. One clear trend has been the sustainability theme, which was virtually non-existent when I started to participate in this exercise and is now one of the criteria we consider in our evaluations, as investors now have a growing focus on ESG.
JM: LPs expect GPs to implement operational support, particularly in light of the higher purchase multiples evident across the market. GPs are also quick to highlight their ‘unique’ operating resources, so LPs expect to see this function with their GPs. One key development in the industry is the increase of buy-and-build strategies, which are the norm today. Although pure organic growth remains important, leveraging a platform with subsequent acquisitions allows managers to ‘buy down’ their purchase multiples while quickly adding scale. When doing so, it is important for PE firms to help their management teams integrate the newly acquired businesses to mitigate risk.
AS: LPs have become more discriminating and now analyse value creation in greater detail, differentiating between the value creation from industry tailwinds and that from portfolio companies’ outperformance versus their peers. They also look for evidence that the private equity owner initiated or supported this, and that it was not all left to management alone.
What do you think operational excellence might look like in 21 years’ time?
VLF: I expect we will see increased adoption of data analytics and tech to maximise efficiency. It will be hard to succeed without excellent human resources management as the demands of Gen Z are very different from previous cohorts and the ability of companies’ management to motivate and leverage talent will be determinant, in my view.
JM: If you believe that PE firms will continue to scale, they might look even more like corporate conglomerates in the future. Operational excellence will be important in allowing larger firms to create value within their portfolio companies, particularly given the potential challenges that may arise as PE firms become ‘super scaled’. If they lose their nimbleness and ability to deliver returns, I think we will see PE firms spinning off their operating teams. The question is whether operational professionals will continue to grow in importance to the point where they run PE firms, which increasingly rely on such professionals as they transform into massive, multi-faceted publicly traded operating businesses.
AS: Private equity firms will continue with much of what they are currently doing, but they will have to be even more rigorous and systematic by actively pushing the value-creation agenda in each and every portfolio company – which today is often not the case. They will continue to broaden their horizons as business practices and technology evolve, and increasingly also include ‘softer’ topics – around ways of working, culture and top team dynamics, for example – to boost the performance of management teams.