How can private equity create new value?

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EY Reporting

Insights from external journalists, academics, practitioners and EY professionals

Reporting, EY Global Assurance’s insights hub, provides high-quality content tailored for board members, finance directors and audit committee chairs.

4 minute read 26 Apr 2018

Business conditions are changing. Do private equity firms need new value-adding strategies?

The business landscape of 2017 is one of low interest rates and technology-driven business models. It is challenging the way private equity firms have traditionally operated. In a new EY report, How can private equity transform into positive equity (pdf), a range of founders and experts address how the industry can adapt to these changes, and what opportunities there are to use new technologies and develop new business models.

Private equity (PE) has played an increasingly important role in the markets, but recently its competitive landscape has expanded, and the industry must now focus on innovative value creation in order to compete in the current business environment.

These continued shifts in business conditions mean that the way PE operates must also change.

New challenges for private equity

Despite recent rate changes by the US Federal Reserve, the world is still in a period of historically low interest rates. Those conditions, coupled with accommodating credit markets and a continuous demand for higher returns, result in private equity facing greater competition for the assets they want.

“If you’re a public company, you can now only essentially sell yourself through an auction,” says John Canning, Chairman of Madison Dearborn Partners, in his recent interview for our PE report. “It makes it very difficult for PE firms to have any kind of edge at all.”

If you’re a public company, you can now only essentially sell yourself through an auction.
John Canning,
Chairman of Madison Dearborn Partners

In such a seller’s market, to stand out from the competition, PE firms need to bring something else to the table as buyers. They need to be able to offer more than just money and deliver other forms of value to the companies in which they invest.

Renewed focus on value creation

PE firms are now increasingly looking to take on more of a consultancy-type role: giving firms in their portfolio the professional expertise they need in order to thrive.

As Stephen Schwarzman, Chairman, CEO and Co-Founder of Blackstone, one of the oldest PE firms in the business, comments in the report, “you don’t create value by just buying the S&P on leverage. You actually have to transform the company.”

You don’t create value by just buying the S&P on leverage. You actually have to transform the company.
Stephen Schwarzman,
Chairman, CEO and Co-Founder of Blackstone

It’s no longer just about cutting costs to boost profits — it’s about boosting the long-term viability of the asset via a more fundamental strategic change in direction.

“The only way you’re going to be able to outperform is when there is something you can do to make it a better business, and that something is within your control,” says Glenn Hutchins, Chairman of North Island and Co-Founder of Silver Lake, in our report.

To increase the scope of what is within their ability to control, PE executives increasingly must bring deep strategic expertise to assets in their portfolio, in order to transform those assets’ business strategies, processes or business models in ways that drive top-line growth.

By doing so, private equity firms will be in a position to build sustainable businesses that can thrive long after they have exited the investment.

New strategy, new skills

As the PE industry transforms into one that drives “positive equity,” PE executives will have to rethink and reshape their own business models — and talent pools. The skills needed to identify cost savings are often different from those that are needed to drive growth.

The best-in-class PE firms of the future will be able to do more than just spot deals and cut overhead. They will have experienced, strategically minded talent on everything from heavy industry to white-collar services to technology, and be able to deploy that talent with precision.

Once we’ve invested in something, we’ve got access to talented people, resources and relationships that can enhance outcome.
Chip Kaye,
Co-CEO, Warburg Pincus

Whether this is done through new hiring strategies or by building networks with third parties, developing a truly attractive, value-creating investment proposition requires PE firms to embrace new strategies and skill sets.

“Corporate transformation is our basic challenge,” says Schwarzman in our report. “Sometimes it’s digital transformation. Sometimes it’s repositioning the business to attack other markets. Sometimes it’s refiguring the asset base — and doing it out of the world of quarterly earnings reports … [but] every time we buy a company or buy a piece of real estate, we always have a plan before we buy it. We are in the transformation business.”

Summary

Private Equity executives increasingly need strategic expertise to truly ensure sustainable, top-line growth for the companies they invest in.

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EY Reporting

Insights from external journalists, academics, practitioners and EY professionals

Reporting, EY Global Assurance’s insights hub, provides high-quality content tailored for board members, finance directors and audit committee chairs.