Organic revenue growth has become the most important driver of returns in private equity.
Pulling through a global recession
PE firms have spent the last three years adapting to a new paradigm defined by sustained volatility coexisting with robust fund-–raising, acquisition and divestiture activity. They quickly adapted to the challenges before them and created new opportunities to add value on behalf of their investors — by entering new markets and aggressively employing new strategies of managing their portfolio companies. Some — the largest firms — have even expanded and diversified into new businesses.
Perhaps most importantly, they remain focused on operational improvements and are committed to navigating the companies they own through the global recession. PE firms capitalized on attractive terms to refinance portfolio company debt, positioning them for long-term stability — and averting what many thought would be the downfall of the industry.
And last but not least, they continue to be in a growth mode, doing what they do best — finding ways to execute in an ever-changing environment, and adapting to conditions to create and maximize value.
Focus on organic growth to drive returns
One key shift made by PE investors over the last decade has been a greater focus on organic revenue growth in portfolio companies. Add-on acquisitions remain an important feature of the PE investment thesis, with sponsors working to ensure that portfolio companies are in a position to buy the right targets by providing further equity capital, helping them to raise debt and optimizing their capital structures.
However, organic revenue growth has become the most important driver of returns. Our latest value creation studies in the US and Europe have found that, since the onset of the recession, EBITDA growth has risen in importance as a driver of PE's value creation compared with pre-crisis years, with organic revenue growth accounting for 46% of EBITDA growth in Europe and 40% in the US.
The results of the Private Equity Capital Confidence Barometer (CCB) reinforce the overall picture of PE employing a laser-sharp focus on adding value. By far the largest use for excess cash in portfolio companies was organic growth, according to respondents. The survey also found that new product offerings and entering new geographic or products markets were the greatest sources of value creation in portfolio companies.
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