Carving out a niche

On the surface, Colorado-based Excellere Partners – which targets companies in sectors including healthcare, specialty foods, industrial technology, business services and education – resembles any number of generalist private equity fund managers focused on the US mid-market.

But a closer look at Excellere’s investment thesis reveals a somewhat unorthodox approach.

“We took a stand and said that our customer was going to be the entrepreneur,” says Ryan Heckman, a managing partner at Excellere. “Every year at our annual meeting we get up in front of our limited partners and tell them that they are not our customer. We have a fiduciary responsibility to our LPs which we take very seriously. But we have tried to create a firm that is a service organisation to entrepreneurs.”

For instance, while Excellere relies on a network of external operators to provide technical expertise and drive operational improvements, it doesn’t force this network on its portfolio companies.

“From the beginning, it’s presented in a matter that is entirely up to the entrepreneur whether they want to be part of that or not,” Heckman says. “We’ve gotten a lot of feedback over the years that entrepreneurs have misgivings about operating partners.”

The one thing Excellere does insist on is that the business owners retain a significant stake in their companies post-investment.

“For someone who’s selling their business outright, they’re going to let the market tell them how much their business is worth and they’re going to sell it for the highest price,” Heckman says. “[Whereas] for these entrepreneurs, they’re as focused on their second bite at the apple as their first.”

This policy has enabled Excellere to invest at more attractive prices and provide more upside to entrepreneurs, according to Heckman.

Excellere has yet to establish a long track record; the firm was only founded in 2006. But the early signs are that its focus on establishing a strong relationship with business-owners (“They end up buying our firm as much as we buy theirs,” as Heckman puts it) is proving fruitful.

Its three exits to date – healthcare services company Advanced Pain Management, retail healthcare business MedExpress and pharmaceutical packaging business MTS Medication Technologies – will generate an average return of more than 4x, according to the firm, while on average, its portfolio companies enjoyed organic growth “in excess of 20 percent each year” between 2008 and 2010, Heckman says.

LPs certainly seem to buy into its approach: having closed Excellere’s debut vehicle on $265 million in early 2007, it raised $465 million for its second fund in just six weeks in late 2010, in a process that was apparently “dramatically oversubscribed”.


Clearly not every US mid-market firm is going to enjoy this kind of success. But funds focused on medium-sized businesses in the US do at least have the benefit of investing in a segment of the economy that is generating annual revenue growth.

Businesses with between $10 million and $1 billion of revenue grew their top lines at a rate of 8.4 percent in 2011 – and are expected to generate revenue growth of 7 percent during the next 12 months, according to a survey from the National Center for the Middle Market, a partnership between The Ohio State University and GE Capital. The survey, conducted in March, found that US healthcare and manufacturing businesses generated the most revenue growth during the past year, growing 13.1 percent and 11.5 percent respectively.

“Middle market companies outperform almost all other [businesses] by a significant factor,” Gary LaBranche, president and chief executive officer of the Association for Corporate Growth, said at ACG’s Intergrowth conference in April.

The most popular sectors for investment in the mid-market in 2011 were technology and professional services, which accounted for about 25 percent and 11 percent of all transactions respectively, according to data provider Dealogic.

But with so many private equity firms focused on the US mid-market (there is no definitive count, but LPs put the number “into the thousands”), the competition for investor capital can be brutal. For this reason, mid-market firms have had to carve out niches that in some cases go far beyond having sector expertise. Excellere is just one example.

For New York-based Blue Wolf Capital Partners, finding quality investment opportunities in the US lower mid-market involves targeting “unconventional” deals that mainstream private equity firms wouldn’t touch.

Since its founding in 2005, Blue Wolf has specialised in companies whose value is “obscured by complexity” in the form of labour relations, government involvement (as a regulator or customer) and/ or financial and operational underperformance.

“There are a lot of private equity firms who don’t want anything to do with organised labour, or who only do it if they have a strategy on how they’re going to get rid of the union,” says Charles Miller, partner and chief compliance officer at Blue Wolf. “Our strategy is: you’ve got a workforce that’s trained and skilled, let’s make them part of the success story by offering incentives and creating mutually acceptable working relationships with the unions.”

Companies whose performance is linked to the US government at the federal, state or local level are of particular interest.

“It could be a highly regulated industry that has lots of uncertainty about which way regulation is going to go; it could be a government contractor that sells to the government; or it could simply be that government policy has an impact on the company’s business,” Miller says. “We don’t necessarily always find all three of those things, but when we find all three we get very excited because we know it’s an area where we can add value.”

This approach – carving out a niche strategy, or targeting deals that other GPs would avoid – is becoming a growing trend in the US mid-market.

For TSG Consumer Partners, which focuses exclusively on the branded consumer sector and frequently invests in beauty and personal care products, promising investment opportunities often have characteristics that would scare away private equity firms.

“There are aspects to the consumer space that can be troubling to someone who’s not in the middle of [the sector],” says John Kenney, a managing partner at TSG. “Colour cosmetics is a good example.  The SKU [stock-keeping unit] complexity is extreme. Hundreds of products are rotated on an annual if not semi-annual basis.”

In many of TSG’s portfolio companies, the firm has pursued a strategy of investing in sales and marketing initiatives that have initially suppressed earnings before eventually increasing them.

“Another situation might be a food business that is heavily focused on one customer,” he says. “We have an investment now which had meaningful customer concentration to one chain in particular when we made the investment. To the inexperienced eye, it was a business with huge customer concentration and a narrow product offering. To us, it is a uniquely positioned growth vehicle.”

The economic growth story is clearly one reason why LPs continue to commit their money to the US mid-market. But the differentiated approach of firms such as Excellere, Blue Wolf and TSG is clearly another. Indeed, this kind of specialist approach is increasingly the benchmark in this crowded space.

“The mid-market, especially in a specialised or differentiated strategy I think continues to be quite appealing,” says Susan Long McAndrews, head of the US primary investment team for fund of funds group Pantheon. “The bar is quite high for a pure, generalist fund…we’re not seeing new groups getting funded unless they have a really compelling story.”

View from the ‘Summit’

The Riverside Company uses its annual Leadership Summit not only as a networking event but also as a marketing tool

In May, global mid-market firm The Riverside Company gathered chief executive officers, chief financial officers and outside board directors from its 81 portfolio companies together for a two-day conference known as the Leadership Summit.

Riverside used to host separate gatherings for CEOs, CFOs and board members – but combined these into a single event that draws roughly 300 attendees from all over the world to share best practices and generate new growth strategies.

“Combining them has enabled us to message to a whole management team at one time, and that is hugely valuable,” says Riverside chief operating officer Pam Hendrickson. “Most of our management teams leave with new ideas that can help them grow.”

At the “Summit” (to which Private Equity International had an access-all-areas pass), Riverside operating partners participate in workshops, think tanks, and “deep-dive” sessions led by external consultants. These cover a range of topics, from pitfalls of emerging economies to incorporating technology into management best practices.

“At one of our companies, sales went up $30 million right after this deep-dive session [and] they attributed it directly to attending this,” says Hendrickson.

The Leadership Summit is part of ‘Riverside University’, a collection of events “designed to help employees develop skills and talents to the fullest”. But it also helps generate what Riverside co-CEO Bela Szigethy calls “great buzz”.

“Great buzz is important for a couple of things, but it’s most important for getting new business,” he says. “When a seller or manager calls one of the attendees here and gets rave reviews about the value [of the event], they’re more likely to sell to us. So it really is a great marketing tool for acquiring new companies.” 

At press time, Riverside was pursuing six new investments generated through referrals from the leadership summit. “We believe it has a very high return on investment,” insists riverside Co-CEO Stewart Kohl. “We wouldn’t do it otherwise.”